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Introduction to Economics and
Business
Lecture 3: Markets
10-9-2018
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Comparative advantages
This doesn’t only hold for “absolute advantages”, but also for
“comparative advantages”.
•
The real cost of producing cars is the wine that must be
sacrificed (opportunity costs!) to produce it.
•
This means the relative price of a good.
Absolute advantages
Comparative advantages
Hours of labor needed
to produce 1:
Car
Bicycle
Opportunity costs for
production of 1:
Car
Bicycle
Germany
8
2
Germany
4 Bicycles
1/4 Car
France
10
5
France
2 Bicycles
1/2 Car
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Markets
•
Comparative advantage shows us who should produce what.
•
Everyone, every firm, every person should specialize in what they
are relatively good (opportunity costs comparative advantage)
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Therefore:
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Everybody produces more than they need
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Everybody produces less than they need
•
This leads to supply and demand which need to come together
•
We need markets!
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Markets
• Standard economics: Perfect markets
• Assumptions:
• Homogeneous goods
• No market power
• No information asymmetry
• Large number buyers and sellers
• Free entry and exit
• Rational and optimizing behavior
• Market function in isolation
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Demand
The total demand for one type of homogeneous good on one
market
•
Demand = sum of “Willingness to pay” of buyers
•
Individual “Willingness to pay” = individual marginal benefit
•
For which price is buying something a good deal?
•
Law of demand: Ceteris paribus, there is a negative relation
between the price of a good and the “quantity demanded” for
that good
•
This can be true for an individual, but is almost always true
for total demand.
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Demand curve
Law of Demand
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Price (dollars)
•
Demand
Curve
4
3
2
1
0
0
10
20
30
40
Quantity Demanded of Good X
50
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Elasticity
How sensitive is the quantity demanded for a price change?
•
•
Senstive  Price elastic good
Not sensitive  Price inelastic good
Elastic
Inelastic
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Demand
• Absolute versus Relative Price
• Law of Diminishing Marginal Utility
• Change in Demand versus Change in
Quantity Demanded
• Shift in the Demand Curve versus a Movement
along the Demand Curve
• Does demand change because of change in price
or independent of change in price?
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Quantity demanded
•
How much demand is there for product X at a
price of P?
•
If the price changes, the quantity demanded
changes:
•
•
Income effect
Substitution effect
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Demand
•
If demand changes without a change in prices, the whole
demand curve shifts
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Demand
•
If demand changes without a change in prices, the whole
demand curve shifts
•
Prices of related goods
•
•
•
Income
•
•
•
Substitution goods
Complementary goods
Normal goods
Inferior goods
Preferences
•
Taste, hypes, fashion, marketing, technology…
•
Size of the population (market)
•
Expectations about the future (prices)
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Supply
• The total supply for one type of homogeneous good on
one market
• Supply = sum of “Willingness to accept” of individual
sellers.
• Individual “ willingness to accept” = marginal costs
• For which price is selling something a good deal?
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Supply (slope)
Law of Supply
Supply
Curve
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Price (dollars)
•
4
D
3
C
2
B
1
A
0
0
10
20
30
40
Quantity Supplied of Good X
50
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Supply
•
Positive relation between the price of a good and the “quantity
supplied” of that good
•
This is a shift over the supply curve
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Why?
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Why the positive relation?
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Marginal analysis!
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Higher price Higher profit maximizing quantity
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Data economy
• Optimal amount in data/information economy?
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Supply
Change in supply without a change in prices  shift of
the supply curve:
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•
•
•
•
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Profitability alternative products (opportunity costs)
Technology/productivity
Amount of suppliers
Taxes & subsidies
The costs of resources
Expectations about the future
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The market & equilibrium
Price (dollars)
20
surplus
S
shortage
D
15
10
5
0
0
50
100
Quantity
150
200
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The market & change
• Now decrease of income less demand for same price
• New equilibrium: Lower price & lower quantity
Price (dollars)
20
S
15
10
5
D
0
0
50
100
Quantity
150
200
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The market & change
• Now decrease in labor costs More supply at same price
• New equilibrium: Lower price & higher quantity
Price (dollars)
20
S
15
10
5
D
0
0
50
100
Quantity
150
200
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The market & change
• Now a decrease in income & labor costs
•  Less demand at same price
•  More supply at same price
• New equilibrium: Lower price, quantity unknown
Price (dollars)
20
S
15
10
5
D
0
0
50
100
Quantity
150
200
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Efficiency & Welfare
Individual decisions:
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•
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In the equilibrium everybody who values (utility) the product more than the
price, can buy the product.
In the equilibrium, everybody who can produce the product for marginal
lower costs than the price, can sell it.
Welfare:
• Consumener surplus=the difference between the price people are willing
to pay, and the price they have to pay (“willingness to pay” – price)
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Producer surplus=the difference between the minimum price firms want
to receive, and the price they receive (price – “willingness to accept” )
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Government surplus= the tax income for the government
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Efficiency & welfare
Consumer surplus
Price (dollars)
20
S
15
10
Producer surplus
5
D
0
0
50
100
Quantity
150
200
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The government & Taxes
• If the government intervens, this changes the market
equilibrium
• A loss of “consumer surplus” and/or “producer
surplus”
• An increase in the “government surplus”
• A loss of welfare  “Deadweight loss”
Market equilibrium
Prijs
Supply
CS
Price
without tax
PS
Demand
0
Quantity
without tax
Quantity
Copyright © 2004 South-Western
Maximum price (price ceiling)
Figure 3 How a Tax Effects Welfare
Consumer surplus: A+B+D
Producer surplus: F
Deadweight loss: C+E
Price
Supply
A
B
C
Price
E
D
Maximum
Price
F
Shortage
0
Q2
Q1
Demand
Quantity
Copyright © 2004 South-Western
Minimum price (price floor)
Figure 3 How a Tax Effects Welfare
Consumer surplus: A
Producer surplus: B+D+F
Deadweight loss: C+E
Price
Surplus
A
Minimum
Price
B
Supply
C
Price
E
D
F
Demand
0
Q2
Q1
Quantity
Copyright © 2004 South-Western
Taxes
Supply 2
Price
Supply
Price buyers
pay
Size of tax (T)
Tax
revenue
(T × Q)
Price sellers
receive
Demand
Quantity
sold (Q)
0
Quantity
with tax
Quantity
without tax
Quantity
Copyright © 2004 South-Western
Taxes & Deadweight loss
Figure 3 How a Tax Effects Welfare
Price
Loss of welfare = deadweight loss
Price
buyers = PB
pay
Supply
A
B
C
Price
without tax = P1
Price
sellers = PS
receive
E
D
F
Demand
0
Q2
Q1
Quantity
Copyright © 2004 South-Western
Taxes & Deadweight loss
Figure 3 How a Tax Effects Welfare
• Consumer surpus=A
• Producer surplus=F
• Government surplus=B+D
• Deadweight loss=C+E
A
B
D
C
E
F
Copyright © 2004 South-Western