Economics I: Scarcity, Markets, Elasticity, Firms, and Market Structure

This is Unit Thirteen of Social Sciences and History, part one of two: microeconomics from scarcity to tax incidence. Unit twelve closed geography on one framework at four scales. This unit opens the economics band, twenty percent of the exam, and this part carries one idea: every economic question is a tradeoff, and the tradeoff is decided by what is given up and who responds. Opportunity cost, what is given up, decides comparative advantage. A shift in supply or demand, who responds to what, decides price and quantity. Elasticity, how much they respond, decides who bears a tax. Ask what is given up and who responds, and the three procedures at this part's core answer themselves. By the end you will be able to say what scarcity forces and tell micro from macro. To compute comparative advantage and tell positive from normative. To run the four-step process. To say what ceilings and floors produce. And to place a response in its elasticity band and say who bears a tax.

Four entries on what economics is: scarcity and the division of labor, micro against macro, what a theory is for, and three ways to organize an economy.

Scarcity and the division of labor.

SSH 1201 Scarcity and the Division of Labor

Economics studies how humans choose under scarcity, when wants for goods and services exceed the available supply. A modern economy shows division of labor: people specialize and buy the rest, which needs markets. Specialization raises output for three reasons: natural advantage and skill, learning and invention, and economies of scale, where average cost falls as output grows.

Micro against macro.

SSH 1202 Micro Against Macro; Fiscal Against Monetary

Microeconomics focuses on the parts of the economy: individuals, firms, industries, met in the circular flow of households and firms across a goods market and a labor market. Macroeconomics looks at the whole, pursuing growth, low unemployment and low inflation through two kinds of policy: monetary policy, interest rates, credit and borrowing, and fiscal policy, government spending and taxes. Units fourteen and fifteen carry macro.

A theory is a tool.

SSH 1203 A Theory Is a Tool

Economists' main tools are theories, or models; the anchor's glossary treats the words as one. A theory is a simplified representation of an object or situation keeping enough key features, held under ceteris paribus, other things equal. It is not an illustration of the answer to a problem but a tool for determining the answer. It is judged by whether it finds answers.

Economic systems.

SSH 1204 Traditional, Command, Market

Societies organize economies three ways. A traditional economy, typically agricultural, does things as they have always been done. A command economy passes decisions down from government, which owns the resources. A market economy decentralizes decisions, with private ownership, private enterprise operating the means of production, and most societies are a mix. Globalization is buying and selling increasingly crossing borders.

Six entries on choice and the frontier: the budget line, opportunity cost, the margin, the frontier, two efficiencies, and comparative advantage with positive against normative.

The budget constraint.

SSH 1205 The Budget Constraint and Its Slope

The budget constraint is all the combinations of goods someone can afford when all income is spent, the boundary of the opportunity set: ten dollars buys five two-dollar burgers or ten one-dollar tickets. Its slope is set by the relative price of the two goods, and beyond it is unaffordable. It moves out with income and pivots with a price.

Opportunity cost.

SSH 1206 Opportunity Cost in Money, Time, Resources

Opportunity cost measures cost by what we give up in exchange: the value of the forgone alternative. It can be measured in money, but often it is useful to count time, or the actual resources forfeited; a free concert costs the evening's wages. The cost is the best alternative forgone, not all of them. This is the first half of the lecture's idea.

The margin.

SSH 1207 Marginal Analysis and Sunk Costs

Marginal analysis weighs a little more or a little less from the status quo. The law of diminishing marginal utility says additional units of a good yield smaller gains than earlier ones, the third slice pleasing less, where utility is satisfaction, usefulness or value from consuming. Sunk costs, spent in the past and unrecoverable, should be disregarded in current decisions.

The frontier.

SSH 1208 The PPF: Outside, Inside, On

The production possibilities frontier shows the combinations of two products an economy can produce, guns and butter, and it curves outward. Points outside are unattainable; points inside are wasteful; a growing economy shifts it outward. The law of diminishing returns explains the curve: added resources yield smaller output gains. The glossary says marginal benefit; the summary's output form governs.

Two efficiencies.

SSH 1209 Productive Against Allocative Efficiency

Every point on the frontier is productively efficient: it is impossible to produce more of one good without producing less of the other, two farms fully worked. Allocative efficiency is the one point that matches the mix of goods society most desires, the farm that grows what the town wants. Productive is about waste; allocative is about preference.

Comparative advantage.

SSH 1210 Comparative Advantage From a Table; Positive Against Normative

The exam gives two countries' outputs and asks who should produce what, and the anchor's frontier logic answers. The curvature of the frontier differs by country, so countries have comparative advantage in different goods: a country has comparative advantage where it can produce a good at lower cost in terms of other goods, that is, at lower opportunity cost. Total production rises when each specializes in its comparative advantage and trades for the rest. A second sorting the exam asks is positive against normative: positive statements describe the world as it is; normative statements describe how it should be. Economic analysis is rooted in the positive, how people actually behave, even when it draws normative conclusions. A gives up two cloth for one wheat and B gives up four: A has the comparative advantage in wheat, B in cloth, whatever their totals. A tariff will raise the price of steel: positive. The tariff should be repealed: normative. The minimum wage reduces teenage employment: positive, testable. Ask, for trade, whose sacrifice is smaller; for statements, whether the sentence can be checked or only argued. The trap is absolute advantage: producing more of both does not decide who should specialize. The second trap is calling a positive claim true; positive means checkable, not correct. Whose sacrifice is smaller is what is given up, made into a rule.

Six entries on supply and demand: schedules and the two laws, equilibrium, what shifts each curve, four kinds of good, and the four-step process on an event.

Schedules and the two laws.

SSH 1211 Schedules, Curves, and the Two Laws

A demand schedule tables quantity demanded at each price; a demand curve graphs it, quantity horizontal, price vertical. The law of demand: a higher price, a lower quantity demanded, other things equal. Supply mirrors it; the law of supply: a higher price, a higher quantity supplied. Demand is the curve; quantity demanded, a point on it.

Equilibrium.

SSH 1212 Equilibrium, Shortage, Surplus

Equilibrium is where the supply and demand curves cross: quantity demanded equals quantity supplied. Below the equilibrium price, quantity demanded exceeds quantity supplied: excess demand, a shortage, empty shelves. Above it, quantity supplied exceeds quantity demanded: excess supply, a surplus, unsold stock. Either pushes price back. Surplus here means unsold goods, not consumer surplus.

What shifts demand.

SSH 1213 What Shifts Demand

A shift in demand is a different quantity demanded at every price, from something other than the good's price: tastes, population, income, the prices of substitutes and complements, and expectations about future conditions and prices, a heat wave shifting fan demand rightward. A price change moves along the curve; a shift moves it. Ceteris paribus holds the other shifters still.

What shifts supply.

SSH 1214 What Shifts Supply

A shift in supply is a different quantity supplied at every price, from something other than the good's price: input prices, natural conditions, changes in technology, and government taxes, regulations or subsidies. Costlier inputs shift supply left, a drought shifting wheat leftward; better technology, right. Factors of production, or inputs, are labor, materials, machinery.

Four kinds of good.

SSH 1215 Substitutes, Complements, Normal, Inferior

Substitutes can replace one another, more of one, less of the other, tea and coffee; complements are used together, more of one, more of the other, coffee and cream. A normal good's quantity demanded rises with income; an inferior good's falls as income rises, noodles against steak. All four are demand shifters. Inferior describes income response, not quality.

The four steps.

SSH 1216 The Four-Step Process on an Event

The exam describes an event and asks its effect on equilibrium price and quantity, and the anchor's four steps answer every such question. One: sketch a supply and demand diagram for the market before the event, with the original equilibrium. Two: decide whether the event affects supply or demand; a change in tastes, population, income, related prices or expectations is demand, and a change in input prices, natural conditions, technology, taxes, regulations or subsidies is supply. Three: decide whether the effect is positive or negative and draw the shifted curve, rightward for more at every price, leftward for less. Four: compare the new equilibrium price and quantity with the original ones. When two events shift both curves, the effect on one variable is certain and the other depends on the sizes of the shifts. A frost destroys half the orange crop: supply, leftward, price up, quantity down. A study links coffee to long life: demand, rightward, price up, quantity up. A new machine halves the cost of making chips: supply, rightward, price down, quantity up. Population grows and technology improves: both rightward, quantity up, price uncertain. The trap is skipping step two and shifting the wrong curve; a price change never shifts either curve, since price is on the axis. The second trap is the double shift, where one answer is indeterminate without magnitudes. Who responds, and to what: the lecture's idea as a procedure.

Seven entries on controls, surplus and elasticity: ceilings and floors, the surplus triangles, elasticity as percent over percent, the bands, time, and who bears a tax.

Ceilings.

SSH 1217 Price Ceilings Make Shortages

A price ceiling is a legal maximum price. Set below the equilibrium, it keeps price from rising, so quantity demanded exceeds quantity supplied: excess demand, a shortage, rent control leaving more renters than apartments. Above equilibrium it binds nothing. Price controls are government laws regulating prices instead of letting markets set them. Unintended consequences often follow, the anchor says.

Floors.

SSH 1218 Price Floors Make Surpluses

A price floor is a legal minimum price. Set above the equilibrium, it keeps price from falling, so quantity supplied exceeds quantity demanded: excess supply, a surplus, price supports leaving unsold grain in silos. Below equilibrium it binds nothing. Binding ceiling, shortage; binding floor, surplus. Surplus here is unsold goods, not welfare.

Surplus and deadweight loss.

SSH 1219 Consumer Surplus, Producer Surplus, Deadweight Loss

Consumer surplus is what consumers would have paid minus what they paid. Producer surplus is the price received minus the least producers would have accepted. Their sum, social surplus, two triangles meeting at the equilibrium point, is largest at equilibrium; deadweight loss is surplus lost at an inefficient quantity. Economic and total surplus are synonyms for social surplus.

Elasticity.

SSH 1220 Elasticity as Percent Over Percent

Elasticity measures the responsiveness of one variable to a change in another. Price elasticity of demand is the percentage change in quantity demanded divided by the percentage change in price; supply's elasticity does the same with quantity supplied. Price up ten percent, quantity down twenty: elasticity two. Percentages, so units do not matter. Elasticity is not slope.

The bands.

SSH 1221 Elastic, Unit, Inelastic: Placing a Response in Its Band

The exam gives percentage changes or a description and asks whether demand or supply is elastic, unit elastic or inelastic, and the anchor's bands decide. Compute elasticity as percentage change in quantity over percentage change in price, taking the absolute value. Greater than one is elastic: quantity responds more than proportionally. Equal to one is unit elastic: a given percentage change in price brings an equal percentage change in quantity. Less than one is inelastic: quantity responds less than proportionally. Two polar cases sit at the ends: infinite or perfect elasticity, where any price change moves quantity by an infinite amount, drawn horizontal; and zero elasticity, where no price change moves quantity at all, drawn vertical. Constant unitary elasticity holds one all along the curve. Price rose five percent and sales fell fifteen: three, elastic. Price rose ten and sales fell ten: unit elastic. Price doubled and sales fell four percent: inelastic. A firm that can sell any amount at the market price but none above it: perfectly elastic demand, horizontal. A lifesaving dose bought at any price: near zero elasticity, vertical. Ask which percentage is larger. The trap is the sign: demand elasticities are negative and the anchor compares magnitudes. The second trap is the glossary's zero inelasticity, a wording slip; the summary's zero elasticity is the term.

Time and elasticity.

SSH 1222 Short Run Inelastic, Long Run Elastic

Quantities demanded and supplied often react slowly to a price change in the short run and more in the long run, so demand and supply tend to be inelastic in the short run and elastic in the long run, often but not always: gasoline this month against five years. Time to find substitutes and build capacity is the reason.

Tax incidence.

SSH 1223 Tax Incidence Follows Inelasticity

Tax incidence is how a tax's burden divides between buyers and sellers. When supply is more elastic than demand, buyers bear most of the burden, a cigarette tax landing mostly on smokers; when demand is more elastic than supply, producers bear most. Revenue is larger the more inelastic both are. Who writes the check does not decide. Who responds least, pays most: the lecture's idea, closed.

Look at what you can now do. You can say scarcity forces choice, that specialization raises output for three reasons, and that micro studies the parts while macro studies the whole. You can compute comparative advantage by asking whose sacrifice is smaller, and tell a positive statement, checkable, from a normative one, arguable. You can run the four steps on an event, and you know a price change never shifts a curve. You can say a binding ceiling makes a shortage, a binding floor a surplus, and social surplus is largest at equilibrium. And you can place a response in its band by asking which percentage is larger, and say the less elastic side bears the tax. What is given up, and who responds: that was the idea, and it ran through every procedure. Part two opens on the other elasticities, then carries utility, costs, the price taker and the four market structures.