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Showing posts with label microeconomics. Show all posts
Showing posts with label microeconomics. Show all posts

9/10/18

What is the difference between endogenous and exogenous variables, considering the determinates of demand.

10:49
What is the difference between endogenous and exogenous variables, considering the determinates of demand.


This post was updated in September 2018 with new information and examples.

One of the things to do when analyzing a supply and demand graph is shift the demand curve.  When we consider what factors will shift a demand curve, we need to make a distinction between the endogenous factors (those contained in the model) and exogenous factors (those occurring outside of the model).  The easiest way to tell the difference between endogenous and exogenous factors is to look at the graph.  You can see from the graph to the right that both quantity and price are on the axis, which means they are controlled for within the model, or they are endogenous.  Every other factor that is not controlled for would therefore be exogenous, (which means that it is determined outside of the model and held constant).  

Some determinants of demand include income, tastes and preferences, and number of buyers. If one of these exogenous factors change, such as income or preferences, then we would need to shift the demand curve because that factor is not accounted for on the axes of the graph.  In this example, demand shifted right, so we would need to see an increase in income (assuming a normal good/not an inferior good), or a change in preferences towards more positive feelings toward the good or service being studied.

Let’s look at another example using math. 

8/23/18

How to calculate marginal costs and benefits (from total costs and benefits), and how to use that information to calculate equilibrium

09:47
How to calculate marginal costs and benefits (from total costs and benefits), and how to use that information to calculate equilibrium
This post was updated in August 2018 to include new information and examples.

At many points in the semester you will be asked to calculate marginal values. The most common are marginal cost and marginal benefit. The marginal cost formula is: Change in total cost divided by change in quantity or:

Change in TC / Change in Q = MC

While the formula for marginal benefit is the change in total benefit divided by the change in quantity or:

Change in TB / Change in Q = MB

We will now go over several examples of calculating marginal benefit and marginal cost to show how to get this right on exam or homework questions. This example problem goes over the degree of comfort experienced at different levels of clean air.  The different dollar value amounts are shown for every 10% increase in clean air.  We want to find the optimum amount of clean air that we should have in this area, and it is important to remember that there is an optimal amount of pollution.  Having 100% clean air is probably never going to be the solution.

So the first step is to recognize the type of data we are working with.  In this problem we have a table of information showing us what the benefits and costs are for different levels of clean air. 

8/21/18

How to draw a PPF (production possibility frontier)

11:19
How to draw a PPF (production possibility frontier)
This post was updated in August of 2018 to include new information and more examples.

The idea of a production possibility frontier (PPF)--also sometimes called a production possibilities curve--can seem difficult.  However, if you understand the intuition behind the economics of the PPF it is really just a graphical representation of what a country or individual is able to produce with a fixed amount of inputs. For example, most people are able to spend their day working or sleeping. A PPF would show this relationship between work and sleep (with the constraint of time in a day).

This article will describe how to derive and draw a PPF given information from a table.  Sticking with the example of the United States producing broccoli and pizza from the prior lesson on PPFs, lets plot out the following PPF given the information from this table:


United States
Different Combinations
Broccoli
Pizza
6
0
100
5
5
80
4
10
60
3
15
40
2
20
20
1
25
0

You can see in the diagram below how we took the different combinations of goods

The five fundamental principles of economics, basic terms we need to know in order to move on.

08:29
The five fundamental principles of economics, basic terms we need to know in order to move on.
da:Bruger:Twid, wikipedia
This post was updated in August 2018 to include new information and examples.

There are five fundamental principles of economics that every introductory economics begins with at the start of the semester: rationality, costs, benefits, incentives, and marginal analysis.

Below is a list of these five concepts with a brief intuitive discussion and examples.

1. People make rational choices:

If you drove to work/school today, I bet you would disagree with this one (because of all of the irrational drivers out there).  However, it is an assumption that economists make to let the models work. Remember that to economists, rationality means that people act in their own best interest with the information that they have available to them. It doesn't mean they make the best long term decisions, it just means they make the best decisions according to their own desire for happiness (with the information that they have).

 In general, most people are rational. For example people eat food, go to work, play nice with others, etc. If people behaved irrationally, then there would be no chance in the world to predict their behavior.  By assuming that people are rational, and make decisions based on what is best for them, we can break down the decision making process.  This allows us to study the factors that influence decision making.

2. Costs and opportunity costs: 

8/20/18

What happens to price if both demand and supply increase at the same time?

10:42
What happens to price if both demand and supply increase at the same time?
Example supply and demand market
This post was updated in August 2018 with more information and examples.

What happens to market equilibrium price if both the supply curve and the demand curve increase? This is a favorite question of teachers because the answer is "it depends"

How can an answer to a text question depend?  We have been taught all our lives that in school (not necessarily life) there is an answer to every question.  However, in economics the answer often depends on the context of the question and when both supply and demand shift right, or increase, then the answer of what happens to equilibrium price is unknown without more information.  To begin this discussion let's look at the market for hamburgers.  We will then shift both supply and demand to the right (increase them) for arbitrary reasons (maybe an increase in preference for hamburger, or it cures cancer or something, for the demand side and a decrease in input costs for the supply side).

The effect of an income tax on the labor market

10:06
The effect of an income tax on the labor market
This post was updated August 2018 with new information and examples.

We all feel the pinch from an income tax on our lives, but how does it affect the overall labor market?  The intuition behind shifts in demand and supply are a bit different in the labor market vs. shifts in the traditional goods and services market. This post will go over the effect of an income tax on the labor market, and discuss some ways to help develop the intuition of why this is important in the labor market..

Take a look at the typical supply and demand model on the left for your typical labor market.  Here S represents the supply of labor, people like you and me who apply for, and work at jobs to receive a salary.  The higher the salary offered, the more people are willing to work, either by getting a job at all, or their willingness to work more hours.  This is why the labor supply curve (the S curve) is upward sloping.  The curve D represents demand for labor.  This would be corporations and businesses that need labor as an input in their production process.  These businesses are willing to hire more labor (perhaps new people are pay them for additional hours works) if they can get it for a cheaper price, which is why the D curve slopes down.

But what happens in this labor market when an income tax is introduced? 

8/14/18

Examples of public goods, a list of public goods

08:31
Examples of public goods, a list of public goods
This post was updated in August of 2018 with new information and examples.

Remember the definition of a public good is something that is non-rival, and non-excludable.

Non-rival means that if one person consumes a good, that good can still be consumed by someone else.  For example, a radio station, just because I am listening to a radio station doesn't mean that someone else can't.  An example of a rival good is an apple.  If I eat the apple, you certainly cannot eat it after I am done.

What is consumer surplus, and how to calculate it.

07:59
What is consumer surplus, and how to calculate it.
This post was updated in August of 2018 to include more information and new examples.

Consumer surplus is when a consumer derives more benefit (in terms of monetary value) from a good or service than the price they pay to consume it.  Technically, this is the difference between your maximum willingness to pay for an item and the market price. For example, imagine you are going to an Electronics store to buy a new flat panel TV.  Before you go to the store, you decide to yourself that you are not going to pay more than $300 for a TV.  This $300 is your maximum willingness to pay for the TV.  After entering the store, you find a TV you really like for only $100!  Since you were willing to pay $300 for the TV, and you only ended up paying $100 for it, you have saved $200.  This $200 is called consumer surplus by economists, because it is the “extra” or “surplus” value you received from the good beyond the price you paid for it.

8/13/18

Self-Interest vs Social Interest, the invisible hand and resource allocation

07:52
Self-Interest vs Social Interest, the invisible hand and resource allocation
wikipedia
This article was updated in August of 2018 to include new information and examples.

The self-interest vs. social-interest debate began with Adam Smith over 200 years ago and is one of the primary arguments made in favor of capitalism vs. other types of economies.

Self-interest is when individuals make decisions that are in their own best interest.  Like when you decide to get up in the morning to go to work and make money, or when you pay the grocery store for food that you would like to eat.  Other examples of self interest include trying to win at sports (for example coming first in a race) or eating the food that is on your plate rather than sharing it. A final example of self interest could be picking up money on the street or using coupons to get a discount at the store--an altruistic individual (someone not acting in their own self-interest) would not take advantage of these opportunities.

8/12/18

How a change in tastes and preferences affects market price and market quantity

17:06
How a change in tastes and preferences affects market price and market quantity
This post was updated in August 2018 to include new information and examples.

This post asks the question of what happens in the market for a good or service when the tastes or preferences for the good or service change.  This question fits into our discussion about the determinants of demand

One of the determinants of demand is the current state of tastes and preferences for the good or service.  In this example, we will be focusing on the services for Romanian translation.  This may seem like an obscure topic, and it is to most people which will limit our demand for the service.  Because of our tastes or preferences for this specific service, we will have a low demand for it, especially compared to the demand for Spanish or Chinese translation services.  But imagine if the U.S. or Europe signed a new free trade agreement, or began spending billions of dollars in business opportunities in Romania.  This would potentially change our tastes and preferences for this service, and likely shift the demand curve right/up.

Giffen goods in economics, examples with graphs

13:44
Giffen goods in economics, examples with graphs
This post was updated in August of 2018 to include new information and examples.

In economics, a giffen good is an inferior good with the unique characteristic that an increase in price actually increases the quantity of the good that is demanded.  This provides the unusual result of an upward sloping demand curve.

What causes shifts in the production possibilities frontier (PPF or PPC)?

11:33
What causes shifts in the production possibilities frontier (PPF or PPC)?
Updated August of 2018 to include more information and examples.

Previous posts have gone over the description and construction of the production possibilities frontier, but have always assumed that the PPF stayed where it was or that everything else was held constant.  Keep in mind that some texts will call it the production possibilities curve (PPC) while this post calls it the production possibilities frontier. Both names describe the same concept.

In the real world there are several events that can occur that would cause the PPF to shift, or cause changes in its shape.

The most common reason a PPF would shift is because of a change in technology, or because of economic growth.  For example, if someone developed a faster computer, or a more efficient way of manufacturing cars, we might see a shift to the right in the PPF.  This means that everything else held constant (ceteris paribus) more goods can be produced after the technological change.  The outward shift could also occur as a result of economic growth, which allows more production of both capital and consumer goods.  The graph below shows this change:

What happens to equilibrium price and quantity when supply and demand change, a cheat sheet

08:53
What happens to equilibrium price and quantity when supply and demand change, a cheat sheet
This post was updated in August 2018 with new information and examples.

This post gives some cheat sheet tables that show what will happen to equilibrium price and equilibrium quantity given changes in either demand or supply.  Click on these links to learn about what can shift supply, or what can shift demand in related posts.

The tables are structured with the title in the top left, and along the first column and row are the different scenarios for shifts in supply and demand.  Demand/Supply “increase” means that demand/supply increases or shifts to the right.  Demand/Supply “decrease” means that demand/supply decreases or shifts to the left.  Demand/Supply “same” means that no shift occurs, and we keep the original demand/supply curve.

Equilibrium Quantity
Demand Increase
Demand Decrease
Demand Same
Supply Increase
Higher
Unknown
Higher
Supply Decrease
Unknown
Lower
Lower
Supply Same
Higher
Lower
Same

8/8/18

How to calculate point price elasticity of demand with examples

09:39
How to calculate point price elasticity of demand with examples
Point elasticity is the price elasticity of demand at a specific point on the demand curve instead of over a range of the demand curve. It uses the same formula as the general price elasticity of demand measure, but we can take information from the demand equation to solve for the “change in” values instead of actually calculating a change given two points.  Here is the process to find the point elasticity of demand formula:

Point Price Elasticity of Demand = (% change in Quantity)/(% change in Price)
Point Price Elasticity of Demand = (∆Q/Q)/(∆P/P)
Point Price Elasticity of Demand = (P/Q)(∆Q/∆P)

Where (∆Q/∆P) is the derivative of the demand function with respect to P.  You don’t really need to take the derivative of the demand function, just find the coefficient (the number) next to Price (P) in the demand function and that will give you the value for ∆Q/∆P because it is showing you how much Q is going to change given a 1 unit change in P. Finding the point elasticity solution is best demonstrated with examples...

8/7/18

How to find equilibrium price and quantity mathematically

10:05
How to find equilibrium price and quantity mathematically
Edit: Updated August 2018 with more examples and links to relevant topics.

Summary:  To solve for equilibrium price and quantity you should perform the following steps:

1) Solve for the demand function and the supply function in terms of Q (quantity).

2) Set Qs (quantity supplied) equal to Qd (quantity demanded). The equations will be in terms of price (P)

3) Solve for P, this is going to be your equilibrium Price for the problem.

4) Plug your equilibrium price into either your demand or supply function (or both--but most times it will be easier to plug into supply) and solve for Q, which will give you equilibrium quantity.


When solving for equilibrium price and quantity, you need to have a demand function, and a supply function.  Sometimes you will be given an inverse demand function (ie. P = 5 –Q) in this case you need to solve for Q as a function of P.  Once you have both your supply and demand function, you simply need to set quantity demanded equal to quantity supplied, and solve.

This is best explained by using an example...

Suppose your monthly quantity demand function for a product is Qd = 10,000-80P, and your monthly quantity supply function for a product is Qs=20P, then we need to follow the first step outlined above and set Qd=Qs and solve for price.

1)    Qd=Qs   which is also equal to--
2)    10,000 – 80P = 20P

We then must add 80P to both sides, then divide by 100 to get:

7/30/18

Price elasticity of demand example

10:07
Price elasticity of demand example

Price elasticity of demand example question where you have to solve for the percent change in quantity or price instead of the elasticity measure. Imagine an elasticity question that gives you the elasticity and then asks you to calculate the percent change in either quantity or price given the percent change in the other term. For example, you are told that the price elasticity of demand for apples is -2 and that  quantity demanded of applies increases from 100 apples to 250 apples. What would the corresponding change in price have to be to accommodate this change in quantity demanded?

First we have to set up our standard price elasticity of demand formula or equation:

7/14/18

The difference between normative and positive statements

14:54
The difference between normative and positive statements

The difference between positive and normative statements is something that every person should be able to understand. Generally, we already intuitively know the difference between a fact and an opinion but sometimes the difference can be a little nuanced so it is good to apply technical terms to the different types of statements which is why it is  useful to know how to recognize the difference between normative and positive statements. First, normative statements are generally opinion or belief based... you may think of a normative statement as something that someone thinks should be normal or standard across society. Alternatively, a positive statement is a statement of "what is" and is generally a statement that can be determined to either be true or false. A trick to remember that a positive statement is testable is to think of a blood test for a disease, it generally either comes back positive or negative.

The rest of this post will go over several statements to practice how to recognize the differences between these example normative and positive statements in the real world.

7/13/18

Examples of Normative Statements in Economics

18:21
Examples of Normative Statements in Economics
A normative statement is a statement that stresses an opinion or belief that cannot be readily tested. They generally suggest a mindset that certain things should happen in order for the world to be better. Easy examples includes statements such as "inequality is bad" or "genders should be paid the same salary". Both of these statements stress a belief that is not an observation of "what is" but rather "what should be".

Understanding how to recognize a normative statement is a very important skill to have when you are trying to pass your economics class. Generally, economists try to avoid making too many normative statements because they view them as closer to being in the realm of political science and are typically unable to be found to be true or false using traditional hypothesis testing. However, this doesn't mean that they are not useful in pursuing a better more livable society for everyone.

The rest of this post will go through several examples to help you identify trends in normative statements and how to differentiate them from positive statements as you go through your course.

Examples of positive statements in economics

11:19
Examples of positive statements in economics

Positive statements tend to focus on statements about what is instead of opinions or what ought to be (a normative statement). In economics we tend to view our study as exploring questions about the truth and the way that people behave. We make guesses about behavior that people engage in. In order to make these guesses, economists will create hypotheses or predictions about the causes and outcomes. These hypotheses are testable and are descriptions of the behavior. The fact that the hypotheses can be found to true or not, and explored with evidence makes it a positive statement.
Let’s go through some examples of statements to see whether they are indeed positive or are instead normative in nature.

6/15/18

How to choose a discount rate--and justify it

11:12
How to choose a discount rate--and justify it

In general there are three possible justifications for choosing a discount rate for your cost benefit analysis. The three justifications are used to explain how people perceive costs and benefits affecting them in different time periods. Because there are a lot of mechanisms within an economy that account for valuing money in different time periods (the most obvious is the interest rate on loans, but inflation and other factors can play a role) they tend to be the predominate choice when choosing a discount rate. The three most common justifications for discount rates are:

1) Cost of borrowing funds. The first and most appropriate justification for choosing a discount rate would be the cost of borrowing the money or capital to run a project. This justification makes the most sense if you are actually going to borrow funds to complete your project. In this scenario you would want your benefits to grow at a rate faster than the interest rate on the loan you made to make the project possible.