Monday, October 19, 2009

Class 6 - Elasticity

On the second exam, there will be 2 supply & demand graphs - one from the broad chapter 4 and one from ch 5 elasticity, externalities of private and public goods.

See pg 87 - problems and applications

#3 - 5 different shocks to the system

start with original equilibrium - S1 and D1 curves
use table 1 and/or table 2, then proceed to process described in table 3

a. people decide to have more children - demand change - table 1: number of buyers, shifts the demand curve, to the RIGHT. at p1, we no longer have equilibrium, we have a shortage. this signals to the sellers to raise the prices, to p2.

however, it also signals to the manufacturers to increase the quantity supply, moving us up the supply curve (not moving the curve itself). movement which is only motivated by price is a move along the curve, not a move of the curve.

at the same time, the quantity demand is decreasing due to the increase in price. this continues until the supply and demand meet at equilibirium.

b. a strike by steelworkers raises steel prices - supply-side change - a change of the input prices, shifting the supply curve, to the LEFT. at p1, we again do not have equilibrium, we have a shortage. price goes up. quantity demanded decreases and the quantity supply increases.

e. a stock-market crash lowers people's wealth - a demand-side change - a change of income, shifting the demand curve to the LEFT. at p1, we have a surplus, which leads to a lowering of prices (to p2) by salesmen. this signals to manufacturers to produce fewer - quantity supply drops. it also signals to buys to buy more - quantity demand increases.

4. identify the flaw in the analysis. change in taste, shifts the demand curve to the LEFT. leads to a surplus at P1. excess bread on the shelf. this signals sellers to lower the price. this leads to lower quantity supply and an increase in the quantity demand.

Elasticity

See figure 1 - the price elasticity of demand. pg. 93.

a - perfectly inelastic demand curve - demand is unaffected by price at all. approximates demand for Starbucks coffee.

graph e is the opposite - purchasers are absolutely affected by price. they will pay only one price.

In the real world, demand curves always have negative slopes, like those in graphs b, c or d - most likely like b or d.

Pe = %ΔQuantity / %ΔPrice

elasticity coeffient:
>1 price elastic
<1 price inelastic

What makes demand curves elastic or inelastic?

Determinants of Price Elasticity of Demand: (see pp 90-91)
1. Substitutes
2. Necessity vs. Luxury
3. Definition of the Market - the narrower the market, the more elastic it is
4. Time Horizon - the longer the time horizon, the more elastic it is (Perot proposed a 10 cent excise tax on gasoline each year, allowing people to adjust to it.)
5. % of Total Budget - a smaller percentage make the response to price changes more inelastic

Total revenue test (see figure 2 pg 95).
multiply price x quantity
you need a second p2 and q2 to compare to
multiply p2 x q2

Yield Management - started with hotels, went to airlines, concerts and other industries where there's fixed capacity.

Impact of Drug Interdiction

See figure 9 pg 107
Demand curve is inelastic. It's a necessity for those who use the drugs.

If there's a drug bust, the supply goes down - shift the supply curve to LEFT. Price goes up. This makes the drug lords richer.

If you use drug education to try to decrease the demand and shift the demand curve to the LEFT, that would reduce total revenue.

Supply of Wheat

Farmers want their own output to increase, but not everyone else's.
See figure 7, pg 103.
If the supply increases, total farm income goes down due to inelastic demand (people don't eat that much more just because prices go down).

Monday, October 12, 2009

Class 5 - Market Economies

Outline:
1. Private ownership of resources
2. Consumer and producer sovereignty
3. Role of prices
4. Profit Incentives

Breeze through analytics of supply & demand in ch 4.
Ch 5 is interesting - Elasticity - responsiveness to price changes in the short, med and long run.
Govt intervention (subsidies, rent control, etc)
International trade
Best of ch 10 and 11 - externalities - common resources (see today's Nobel prize winner) - govt ability to handle those common resources

No class on 10/26.

History:
1989 eastern europe - nov 9 berlin wall fell.
1991 in soviet union
rest of 90s they tried to build a market economy.

Economists expected the free markets to easily achieve equilibrium. Similar to financial markets. Markets are more fragile and complicated than people, even economists, think. The softer sciences are very important in the full analysis.

1. Private ownership of resources
Privately-owned resources lead to market economies, even if the government of the country is socialist, such as Sweden. (Volvo, Ikea, H&M, SAS). It's complicated - it requires a recorder of deeds, lawyers, contracts, courts.
US gov't buying shares of GM was not a step away from market economies, it was meant to keep it from falling apart. If the US was heading towards socialism, the govt would be buying good companies, not bad ones.

2. Consumer and producer sovereignty
People have the right to decide and think for themselves what to buy and what to sell. This is one big difference btwn east and west germans in their general attitude. Insurance salesmen were phenomenally successful in east germany because of their attitude. In the former soviet union, entrepeneurs came from hard/pure sciences and literature, because those were the people who recognized the weaknesses of communism and chose those things to study because they are independent. They were the free thinkers.

3. Role of prices
Single most important piece of info in a market economy is the prices. Market prices tell you about demand, availability, scarcity, etc. They provide signals in information to buyers and sellers.

4. Profit incentives
People who understand the information contained in prices, stand to benefit from profits. It has a positive social value.

Market economies take a long time (decades) to develop. They require a lot of infrastructure. You can't just open up free markets and assume they will work.

Market Participants

1. Demand (bring money, leave with something else)
- Buyers
- Purchasers
- Consumers

2. Supply (includes laborers)
- Sellers
- Producers

Supply means how many are available for sale (ex Renoir paintings)

Equilibrium

No moral or ethical connotations. Prior to Adam Smith, there was discussion of what constitutes a "fair" price. See Thomas Aquinas. See page 77, figure 8.

Rising prices are not good or bad. It all depends on whether you're buying or selling.

See figure 10 on page 80. Mankiw provides the sequence of events. Chronology is very important. So is terminology. See tables 1 and 2 on page 71 and 76.

Single most important thing in our textbook (pg 79):
Three steps to analyzing changes in equilibrium
1. Decide whether the event shifts the supply or demand curve (or possibly both)
2. Decide in which direction the curve shifts
3. Use the supply-and-demand diagram to see how the shift changes the equilibrium price and quantity.

See figure 10-11: How shifts in supply/demand affect the equilibrium
See figure 12 - A shift in both supply and demand

See table 4: All 9 possible combinations of supply/demand changes (or non-changes)
Some combinations (where both supply and demand are changing) are ambiguous, but the ambiguity can always be solved if you know the relative size of the increase/decrease in the supply or demand.

Class 4 - Comparative Advantage part 2

I missed this class, but I have notes.