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| | {{Economics_Lectures}} | | {{Economics_Lectures}} |
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| − | At this point we have covered most of what is taught in "Microeconomics", and most of what is on the CLEP exam for college credit. We have only five lectures left, and then a final exam. | + | At this point we have covered most of what is taught in "Microeconomics", and most of what is on the CLEP exam for college credit. There are still some important topics that we need to cover in the remainder of this course, such as: |
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| − | There are still some important topics that we need to cover in the remainder of this course, such as: | |
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| | *externalities | | *externalities |
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| | *capital and banking | | *capital and banking |
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| − | About 10% of the CLEP Microeconomics exam questions are on government policy, a much higher percentage than one would expect for a course about individual market-based decisions. Also, nearly 5% of the exam asks about "production possibilities," which is not a particularly important concept in Microeconomics. But we'll cover all these topics so that you will be prepared if you want to take the CLEP and earn college credit. | + | About 10% of the CLEP Microeconomics exam questions are on government policy, a higher percentage than one would expect for a course about individual market-based decisions. Also, nearly 5% of the exam asks about "production possibilities," which is not a particularly important concept in Microeconomics. But we'll cover all these topics so that you will be prepared if you want to take the CLEP and earn college credit. |
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| − | We will also spend much of the remainder of the course reviewing and learning better the key concepts already introduced in earlier Lectures. Several homework questions each week will be review questions.
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| − | '''''You should use your midterm exam as a learning tool to make sure you understand the material in questions you answered incorrectly. Those questions are the heart of this course, and the more that you can learn from your mistakes, the better you will do on the final exam here and on the CLEP'''''. Each year I put on the final exam an identical question that was on the midterm exam. Don't answer it incorrectly again!
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| − | First we will review a concept from the midterm exam, and then we will begin to learn some of the remaining new concepts listed above.
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| − | == Marginal Analysis ==
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| − | Virtually every single student in our class missed the question relating to the relationship between total revenue and marginal revenue. This question tests whether the student understands marginal analysis. Let's review this so no one misses it again.
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| − | Marginal "something" is how much that "something" is increasing or decreasing at a particular time or amount of output. Your marginal increase in height, for example, is how much you are growing at this time.
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| − | Marginal revenue is how much the total revenue of a firm increases or decreases at a certain amount of output. If the firm produces 5 units, its marginal revenue is the amount that total revenue increased when it produced and sold that 5th unit.
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| − | The question on the midterm asked what the marginal revenue is when the total revenue is at its maximum. If you don't know the answer, then try a few possibilities. What if marginal revenue were positive? Then producing another unit of output would generate additional total revenue by an amount equal to the positive marginal revenue. But the problem said that total revenue is at its maximum, so it is not possible to increase it. Therefore marginal revenue cannot be positive.
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| − | What if marginal revenue were negative? Then reducing the output by one unit would have the effect of eliminating the negative marginal revenue for that unit. This would increase the total revenue. But that is not possible because total revenue is at its maximum. So marginal revenue cannot be negative.
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| − | If marginal revenue cannot be positive, and it cannot be negative either, then there is only one possibility left: marginal revenue must be zero.
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| | ==Externalities== | | ==Externalities== |
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| | But look more closely. The next time you’re traveling in a car, take a look at the exhaust pipe on the car in front of you. Pollution comes out of it. That harms other people who did not sell or buy the gas. People who do not drive, or children, are slightly affected by that pollution. In some poor neighborhoods, it’s customary (and illegal) for car owners to modify their cars so that their engines have higher miles-per-gallon, but produce more pollution. You can smell the difference when you are stuck behind one of those cars. Airport taxicabs are notorious for putting out more pollution than the average car. Airplanes themselves put out substantial pollution at airports as they idle. In New Jersey, there is now a law against idling one's engine for longer than a few minutes. At truck stops, truckers are encouraged not to idle their engines for long periods of time, but many do anyway. | | But look more closely. The next time you’re traveling in a car, take a look at the exhaust pipe on the car in front of you. Pollution comes out of it. That harms other people who did not sell or buy the gas. People who do not drive, or children, are slightly affected by that pollution. In some poor neighborhoods, it’s customary (and illegal) for car owners to modify their cars so that their engines have higher miles-per-gallon, but produce more pollution. You can smell the difference when you are stuck behind one of those cars. Airport taxicabs are notorious for putting out more pollution than the average car. Airplanes themselves put out substantial pollution at airports as they idle. In New Jersey, there is now a law against idling one's engine for longer than a few minutes. At truck stops, truckers are encouraged not to idle their engines for long periods of time, but many do anyway. |
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| − | So the buyers and sellers of gas do not pay the full cost. The public is bearing the small cost of the pollution. This is an called a “negative externality” because it imposes costs on people who did not buy the good. A negative externality has a negative effect on others. | + | So the buyers and sellers of gas do not pay the full cost. The public is bearing the small cost of the pollution. This is called a “negative externality” because it imposes costs on people who did not buy the good. A negative externality has a negative effect on others. |
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| | Car pollution is often unnoticeable. But sometimes pollution can be severe and dangerous. If a company can dump toxic waste into a river for free, then that is going to be cheaper for it than disposing of the waste in proper manner. The company will make more profits by dumping its waste at less cost to it. But those who like to swim or fish in the river will suffer the harm. Either they will have to curtail their activity, interfering with their utility, or they could become sick from it. Environmental harm is the most obvious type of "negative externality." Another example of a negative externality is excessive noise at heavy metal rock concerts, which may disturb neighbors who never bought or sold a ticket. | | Car pollution is often unnoticeable. But sometimes pollution can be severe and dangerous. If a company can dump toxic waste into a river for free, then that is going to be cheaper for it than disposing of the waste in proper manner. The company will make more profits by dumping its waste at less cost to it. But those who like to swim or fish in the river will suffer the harm. Either they will have to curtail their activity, interfering with their utility, or they could become sick from it. Environmental harm is the most obvious type of "negative externality." Another example of a negative externality is excessive noise at heavy metal rock concerts, which may disturb neighbors who never bought or sold a ticket. |
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| | == Public good == | | == Public good == |
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| − | A “public good” is something, like music in public, that provides a benefit to one person without reducing the benefit to others. (Let's assume it's ''good'' music!) One listener does not lose benefit by the presence of other listeners. It is impossible to exclude others nearby from freely hearing it. Food, in contrast, is not a public good, because one person can eat an entire meal without allowing others to eat it also! | + | A “public good” is something, like music in public, which provides a benefit to one person without reducing the benefit to others. (Let's assume it's ''good'' music!) One listener does not lose benefit by the presence of other listeners. Unless earphones are used, it is impossible to exclude others nearby from freely hearing it. Food, in contrast, is not a public good, because one person can eat an entire meal without allowing others to eat it also! |
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| − | Let's try to define a "public good" in a more rigorous manner. '''''A "public good" is a good which has indivisible benefits such that others cannot be excluded from the benefit for not paying.''''' Here are some examples: | + | Let's try to define a "public good" in a more rigorous manner. '''''A "public good" is a good which has indivisible benefits such that others cannot be excluded from the benefit even though they do not pay for it.''''' Here are some examples: |
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| | *fire protection | | *fire protection |
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| | Public transportation is not a public good because it is easy to keep people off who do not pay. But the cost of riding is usually much lower than the true cost, and taxpayers subsidize most of the cost of public transportation. | | Public transportation is not a public good because it is easy to keep people off who do not pay. But the cost of riding is usually much lower than the true cost, and taxpayers subsidize most of the cost of public transportation. |
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| − | Garbage collection in most cities is a public good because voters want all of the garbage collected, whether someone wants to pay for it or not. But in rural areas, including much of New Jersey, people do pay private for garbage collection. The small town governments do not pay for it. | + | Garbage collection in most cities is a public good because voters want all of the garbage collected, whether someone wants to pay for it or not. But in rural areas, including much of New Jersey, people do pay privately for garbage collection. The small town governments do not pay for it. |
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| − | ''Question'': Are websites on the internet public goods? Is Conservapedia a public good? Imagine that! | + | ''Question'': Are websites on the internet, like ''Conservapedia'', public goods? |
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| | == Private good == | | == Private good == |
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| | :In 2008, "the average salary for a federal government employee was $79,197. The average salary for a private employee in the United States was $49,935. ... Orange County Sheriff Sandra Hutchens earns almost half a million dollars a year between her current salary as sheriff and her pension from the Los Angeles County Sheriff's Department. And Ms. Hutchens is not alone. Orange County CEO, Tom Mauk also earns close to $500,000 a year with his current salary from the County and his pension from working for La Habra." | | :In 2008, "the average salary for a federal government employee was $79,197. The average salary for a private employee in the United States was $49,935. ... Orange County Sheriff Sandra Hutchens earns almost half a million dollars a year between her current salary as sheriff and her pension from the Los Angeles County Sheriff's Department. And Ms. Hutchens is not alone. Orange County CEO, Tom Mauk also earns close to $500,000 a year with his current salary from the County and his pension from working for La Habra." |
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| − | Superintendents of public school districts in New Jersey are paid hundreds of thousands of dollars each year in salaries and pensions. In electing a new governor of New Jersey who advocates lower taxes, voters may have been wondering what they are getting in return for paying such high taxes. | + | Superintendents of public school districts in New Jersey are paid hundreds of thousands of dollars each year in salaries and pensions. Some people in New Jersey voted against Jon Corzine for governor, and elected Chris Christie instead, because they felt it was time to stop the growth in spending by the New Jersey government. |
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| | ===Honors Example=== | | ===Honors Example=== |
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| − | Consider an example of a government regulator telling a monopoly at which price to sell his goods. This rarely happens, but public utilities (gas and electric companies) are an example where government must approve any rate increases. | + | Consider an example of a government regulator telling a monopoly at which price to sell his goods. This rarely happens, but public utilities (gas and electric companies) are an example where any rate increases must first be reviewed and approved by government before they can go into effect. |
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| | Monopolies sell where marginal revenue equals marginal cost, or MR=MC. But that is at a higher price than if there were perfect competition. In perfect competition, the goods sell where P=MC, or where the marginal price curve intersects the demand curve. That is at higher quantity of output than where the marginal cost curve intersects the marginal revenue curve. Always remember: the best price point for the public is the price when there is perfect competition, and there is more output at that equilibrium price in the free market. More output means more benefits to the public, and more consumer surplus. | | Monopolies sell where marginal revenue equals marginal cost, or MR=MC. But that is at a higher price than if there were perfect competition. In perfect competition, the goods sell where P=MC, or where the marginal price curve intersects the demand curve. That is at higher quantity of output than where the marginal cost curve intersects the marginal revenue curve. Always remember: the best price point for the public is the price when there is perfect competition, and there is more output at that equilibrium price in the free market. More output means more benefits to the public, and more consumer surplus. |
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| | Yet the difficulties in surviving are what make a tree strong. Each day it grows in two directions: downward further into the soil towards more nutrients, and upwards into the sky towards more sunlight. Its growth is not easy in either direction. The more it has to reach for nourishment, the bigger and stronger it becomes. Trees that are given their nutrients, as in a laboratory, do not grow as large and powerful as trees that must struggle to survive in the wild. | | Yet the difficulties in surviving are what make a tree strong. Each day it grows in two directions: downward further into the soil towards more nutrients, and upwards into the sky towards more sunlight. Its growth is not easy in either direction. The more it has to reach for nourishment, the bigger and stronger it becomes. Trees that are given their nutrients, as in a laboratory, do not grow as large and powerful as trees that must struggle to survive in the wild. |
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| − | It is in striving against obstacles that the tree becomes so powerful. Economics predicts that those who suffer from adversity will often become more successful or productive than those who have it easy, just as is true for trees. The adversity is what makes one stronger, more motivated and more efficient. Many of the most successful businessmen in history had very difficult childhoods, and some (like Tom Monahan, founder of Dominos Pizza) even grew up in orphanages. Poverty was the common background of most successful businessmen. In contrast, people who have had it easy rarely invent or succeed with their own businesses. | + | It is in striving against obstacles that the tree becomes so powerful. Economics predicts that those who suffer from adversity will often become more successful or productive than those who have it easy, just as is true for trees. The adversity is what makes one stronger, more motivated and more efficient. Many of the most successful businessmen in history had very difficult childhoods, and some (like Tom Monahan, founder of Domino's Pizza) even grew up in orphanages. Poverty was the common background of most successful businessmen. In contrast, people who have had it easy rarely invent or succeed with their own businesses. |
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| | The Bible contains a similar message: it is through suffering and difficulties that Christianity became so strong. Many books in the Bible emphasize this, from Daniel to Mark. Learn to use adversity like an exercise bicycle or weights in order to make you stronger and more successful economically. | | The Bible contains a similar message: it is through suffering and difficulties that Christianity became so strong. Many books in the Bible emphasize this, from Daniel to Mark. Learn to use adversity like an exercise bicycle or weights in order to make you stronger and more successful economically. |
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| | There is a Latin phrase: "nitor in adversum." It means "strive in opposition." It's a good motto. | | There is a Latin phrase: "nitor in adversum." It means "strive in opposition." It's a good motto. |
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| | + | == Review: Price Elasticity of Demand == |
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| | + | Price elasticity less than 1 is inelastic, and more than 1 is elastic. Here are specific examples (price elasticity is always negative due to the Law of Demand, but its absolute (positive) value is used for convenience): |
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| | + | *rice in Japan: 0.2 (inelastic because it is a basic food there) |
| | + | *travel by bus: 0.2 (inelastic because it is a necessity for bus travelers) |
| | + | *cigarettes: 0.5 (inelastic because of the addiction) |
| | + | *gambling: 0.8 (inelastic because of the addiction) |
| | + | *movies: 0.2 for teenagers (inelastic), but 2 for adults (elastic) |
| | + | *beef: 1.6 (elastic because there are substitutes like chicken) |
| | + | *soda: about 4 (elastic) |
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| | + | As review, recall that if price elasticity of demand is greater than 1, then the quantity demanded changes by more than the price change. Revenue, which is price times quantity, then decreases when the price increases. When the price elasticity is less than 1, then the quantity demanded changes by less than the price change. Revenue then increases when the price increases. When price elasticity is precisely 1, then the quantity demanded changes by the same percentage as the price change. Revenue then remains constant when the price increases. |
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| | + | Now we can expand on what we learned by asking this obvious question: what affects the price elasticity of demand? Here are the major factors: |
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| | + | *the availability of substitutes, because if there are substitutes then customers will switch to them when price increases, causing a big decrease in demand |
| | + | *the cost of switching to substitutes without paying a penalty or incurring large transaction costs |
| | + | *whether the good is a necessity or a luxury |
| | + | *the percentage of one's income allocated to the good: if it is a large percentage, then it will have higher price elasticity |
| | + | *the longer the time period, the more price elastic it will be, because in the long run demand can more fully respond to a price change |
| | + | *whether the good is addictive, because an addictive good is inelastic due to how the buyers are hooked on it even when its price increases |
| | + | *whether the market is at "peak" or "off-peak" demand; people want airline tickets the day before Thanksgiving, when many people traveling, even if the price increases |
| | + | *the more narrowly defined a good is (e.g., a specific brand of hamburger rather than all hamburgers), the more price elastic it will be due to the availability of substitutes |
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| | + | == Review: Returns to Scale == |
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| | + | Next let's review “returns to scale.” Imagine using a scale of one foot in measuring the dimensions of a room. Then change to a scale of inches. All dimensions increase by a factor of 12, because there are 12 inches to a foot. That is what “scale” means: it affects everything. In economics, changing the scale means changing all inputs by the same proportion. Increasing the scale means increasing all inputs. The “returns to scale” are then what happens to the output of a company when all inputs are increased. Is "bigger" more efficient for the business? |
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| | + | The phrase that something is "scalable" means its proportions increase in a similar way in all respects, like "similar triangles" in geometry. Some things are "scalable", while others are not. A software database program that works the same for 100 entries as it does for 1 million entries is "scalable"; a program that needs to be reworked and reprogrammed as the database grows larger is not scalable. One of the fabulous features of "wiki" software used by ''Conservapedia'' is that it is scalable: almost no adjustments were needed as the number of its entries increase from 1 to 1000 to over 30,000 now, or even to a million entries in the future. |
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| | + | “Increasing returns to scale” means that when you increase all the inputs, then your company’s output increases by an even greater proportion. For example, if you double your inputs then perhaps your output triples. That would be extremely profitable for your business. Your costs only double, but your revenue triples. Your profits skyrocket. It is a formula for success. |
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| | + | Wal-Mart’s “secret” to its success would is its “increasing returns to scale.” The bigger it gets, the more efficient it becomes, the cheaper it can buy goods for (because it is obtaining volume discounts), and the more output it can produce. It is not simply that Wal-Mart's output increases as it grows bigger, but its output (and revenue) increase by more than its costs do. That greater proportional increase becomes profits. |
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| | + | Meanwhile, there is nothing special about constant returns to scale, which is to be expected. But decreasing returns to scale is a disaster for a business that is growing. So is diminishing returns to labor. |
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| | + | ''Simple rule'': If "bigger is more efficient," as it is for Wal-Mart, then there are "increasing returns to scale." |
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| | + | What are the returns to the scale for the world population? It likely has increasing returns to scale. Twice as many people means more than twice as much output. Humans are creative, and twice as many humans would probably mean more than twice as many inventions like the light bulb and the iPhone, as people build on the work of others. |
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| | + | ==Review: Law of Diminishing Returns== |
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| | + | What is the Law of Diminishing Returns? That is a rule that applies to ONLY ONE input. It is when a company keeps its assembly line and factor size constant, for example, but keeps hiring more and more of one input, such as labor. Eventually each added employee will have less and less to do. The returns on the additional employees decline. But if all inputs were increased at the same time, then the Law of Diminishing Returns does not apply. Then it is a question about returns to scale. |
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| | + | Consider this question: |
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| | + | “The more someone has, the more he wants in order to be satisfied!” What economics principle would best explain that phenomenon? |
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| | + | (a) Law of Demand |
| | + | <br>(b) Law of Diminishing Returns |
| | + | <br>(c) Law of Diminishing Marginal Utility |
| | + | <br>(d) Coase Theorem |
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| | + | Choices (a) and (d) can be eliminated immediately, but selecting between (b) and (c) is more difficult. The key here is that “marginal utility” refers to consumer satisfaction, while “returns” refers to output of a company. The question is geared towards consumer satisfaction, not output by a firm. It refers to what someone wants, not what a company produces. The correct answer is therefore (c). |
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| | + | Know these concepts like the back of your hand, and learn from your mistakes. There will be a final exam when you can prove how much you learned. |
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| | ==Assignment== | | ==Assignment== |
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| − | Answer 6 out of 7 questions below:
| + | After reading and studying the lecture, answer 6 out of 7 questions below: |
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| | 1. In your own words, try to give a better definition of "externalities" than provided by this Lecture. | | 1. In your own words, try to give a better definition of "externalities" than provided by this Lecture. |
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| − | 2. Explain why marginal revenue must be zero when total revenue is maximized. | + | 2. Explain what "derived demand" is, and provide an example. |
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| − | 3. What is your favorite question on the midterm exam that ''you answered incorrectly'', and why is it your favorite? | + | 3. What is your favorite question on one of the quizzes that ''you answered incorrectly'', and why is it your favorite? |
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| | 4. Give an example of a positive externality, and an example of a negative externality. The example does not have to be limited to a business. | | 4. Give an example of a positive externality, and an example of a negative externality. The example does not have to be limited to a business. |
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| | Answer 3 out of the following 4 questions: | | Answer 3 out of the following 4 questions: |
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| − | 8. Mathematically prove (or disprove!) the answer to the question on the midterm exam about P=30/Q. | + | 8. Explain why marginal revenue must be zero when total revenue is maximized. |
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| | 9. Provide, in your own words, the best definition of "public good" that you can. | | 9. Provide, in your own words, the best definition of "public good" that you can. |
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| − | 10. Find a question on the midterm that describes a situation that would be unusual in the real world, and explain why the scenario of the question is unrealistic. | + | 10. Identify a concept in economics that you found difficult to understand at first, but then explain how you were able to eventually understand it. |
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| − | 11. Revisit the problem on the midterm about the price ceiling (with the graph), which asked how much the shortage would be. Provide the correct answer and explain why. (If you answered it correctly, then provide a similarly difficult substitute question for this.) | + | 11. What is the price elasticity of demand for this demand curve: P=30/Q. Explain. |
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| | == References == | | == References == |
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| | <references/> | | <references/> |
| | + | <br><br> |
| | [[Category:Economics lectures]] | | [[Category:Economics lectures]] |
| | {{DEFAULTSORT: Economics Lecture 10}} | | {{DEFAULTSORT: Economics Lecture 10}} |