Wednesday, February 12, 2025

Economic 复习整理

Micro Macro Global

- 内容
- de nition
- 概念concept
- RWE
- 重点/不懂

Micro【 录】
- Price mechanism
- Demand
-
- Supply
- Competitive market
- PED
- YED
- PES
- Government in Micro
- Market failure: Externalities + common pool resources
- Market failure: public goods

Ceteris paribus: All other variables remains constant

DEMAND
Demand is the amount of a good/service that a consumer is willing and able to purchase
at a given price in a given time period
◦ If a consumer is willing to purchase a good, but cannot a ord to, it is not e ective
demand【willing but 不能a ord = not e ective demand】

Law of demand: there is an inverse relationship between price and quantity demanded,
ceteris paribus
◦ When the price rises the QD falls
◦ When the price falls the QD rises
Market demand is the combination of all the individual demand for a good/service
◦ It is calculated by adding up the individual demand at each price level

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Assumptions

Law of demand基于three key assumptions [consumers’ behavior in uenced by price]:

[How changes in price a ect consumers' purchasing power+choice among di erent
goods]
◦ The income e ect
• Change in consumers’ purchasing power
• Price ↓ —> purchasing power ↑ [ with the same income they can buy more goods]
• Price ↑ —> purchasing power ↓ [ vice versa: with the same income they can a ord
less goods]
◦ The substitution e ect
• Consumers are rational decision makers
• Consumers will substitute the expensive ones with the cheaper ones
• Price ↑ —> seek alternatives [with the same utility]
[Why consumers are less willing to pay higher prices for additional units of a good]
◦ The law of diminishing marginal utility
• As additional products are consumed, the satisfaction gained from the next unit is
lower from the previous unit.
• Marginal utility = the additional satisfaction gained
• e.g. a hungry consumer gains high utility from eating their rst hamburger. They are
still hungry and purchase a second hamburger but gain less satisfaction【因为他已
经微饱了，没那么饿】 from eating it than they did from the rst hamburger
• Lower price —> more attractive to consume additional unit

Price change —> Demand curve

Price change + ceteris paribus —> change in quantity demand

Diagram analysis:
- change in price will lead to change along the initial curve

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Non-Price determinants of demand

Shift of the demand curve

Factors —> change the demand:
◦ Changes in real income
◦ Changes in tastes/preferences
◦ Changes in the price of related goods (substitutes and complements)
◦ Changes in the number of consumers
◦ Future price expectations

Non price Explain Condition Shift Condition Shift

determinant

Changes in Real income = Income Shift right Decrease Shift left

real income how many increases
goods/
services can
be enjoyed by
consumers

Income &
demand —>
direct
relationship
Change in Good& More Shift right Less Shift left
taste and services —> preferable
preference More
preferable
then demand
for them
increases

Advertisment
+ branding—>
change
preference

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Non price Explain Condition Shift Condition Shift
determinant

Change in Direct Price ↑ Shift right Price ↓ Shift left

prices of relationship
substitute between good
goods A and good B
Changes in inverse Price ↑ good Shift left Price ↓ good Shift right
the prices of relationship A A
complementa between the
ry goods（互 price of good
补产品） A and demand
for good B
Changes in Population Increase Shift right Decrease Shift left
the number of size
consumers
Future price Expect the Expect price ↑ Shift right Expect price ↓ Shift left
expectations price to
increase in the
future

SUPPLY
Supply is the amount of a good/service that a producer is willing and able to supply at a
given price in a given time period

Rational pro t maximising producers would want to supply more as prices increase in
order to maximise their pro ts

The law of supply states that there is a positive (direct) relationship between quantity
supplied and price

Market supply is the combination of all the individual supply for a good/service
◦ It is calculated by adding up the individual supply at each price level

Price rises but costs do not change —> pro tability increases —> supply more ( increase
pro ts)

Assumption

The law of supply is based on two key assumptions

◦ The law of diminishing marginal returns
• More variable factor added to x factors —>increase productivity
• Will reach a point —> doing additional units of factor begin to decrease productivity
◦ Increasing marginal costs
• as a producer ↑ the Q of a good/service supplied, the additional cost of producing
each additional unit also ↑
• producers are willing to supply a greater quantity at higher prices to justify the
higher costs of production

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Price change —> Demand curve

Only price —> change in quantity supplied (QS)

Non-Price determinants of supply

Factors:
◦ Changes to the costs of production
• price of raw materials / other COP change —-> rms respond by change in supply
• COP increase —>shift left
• COP decrease —> shift right

◦ Changes to indirect taxes and subsidies

• Change in COP
• Increase in costs of production → supply shifts to the left
• land
• labor
• capital
• entrepreneurship (human capital or intellectual capital)

• Tax ↑ —> shift left

• Tax ↓ —> shift right
• Subsidy↑ —> shift right
• Subsidy ↓ —> shift left

◦ Changes to technology
• Improvement in technology —> supply shift right
• Natural disasters may move the tech backwards —> shift left
◦ Changes to the number of rms
◦ Weather events
◦ Future price expectations
◦ Demand likely to rise —> supply ↑( ready to supply more in the future and gain
higher pro t)
◦ Goods in joint and competitive supply

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PRICE MECHANISM:
Price mechanism refers to the system where the forces of demand and supply determine
the priced of commodities and the changes therein. It is the buyers and sellers who actually
determine the price of a commodity.
通俗来说就是：move market into equilibrium

- Scarce resources are allocated and reallocated in response to changes in price.

- Price signals are given to producers what consumers wish to buy
- Price changes as a result of change in equilibrium.
- A higher price would provide incentives to rms to produce more, since there is a larger
pro t.

- Opportunity cost: is the next best alternative forgone. When a choice is made, there is
an opportunity cost.

MARKET EQUILIBRIUM
- supply equals to the demand
- Excess supply: More is being supplied than demanded at P1 → in order to eliminate the
surplus, producer must lower the price
- Excess demand: More is being demanded than supplied at P2 → in order to eliminate
this shortage, producer must raise the price

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Changes in determinants cause changes in equilibrium

- change in determinants of demand/supply —-> shift the curve (not

change in price)
- When Demand shifts to D1, Qe is the quantity supplied, but Q2 is the
quantity demanded, there is excess demand (of xxx units)
- Due to price mechanism (see below), the price will rise until Pe1, where
the new equilibrium quantity, is both demanded and supplied.

MARKET EFFICIENCY

- Consumer surplus: is the extra satisfaction gained by consumers from

paying a price that is lower than that which they are prepared to pay.
- Producer surplus: is the excess of actual earnings that a producer
makes from a given quantity of output, over and above the amount the
producer would be prepared to accept for that output.

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Allocative ef ciency
Allocative efficiency happens when competitive market is in equilibrium,
where resources are allocated in the most efficient way from society’s
point of view.
• Social surplus (consumer + producer surplus) is maximized.
• Marginal social bene t = Marginal social cost

INDIRECT TAXES
Speci c ( xed amount) taxes and ad valorem (percentage) taxes and their
impact on markets
Aim of imposing indirect taxes:
1. To raise tax revenues → Government spending
2. Internalize externalities → Achieve socially optimal level of output
Types of indirect tax:

Specific tax: is where a fixed amount of tax is imposed upon a product.

• Shifts supply curve vertically upward by the amount of the tax
• i.e. A tax of $1 per unit → supply shifts $1 unit upward

Consequences of imposing an indirect tax:

1. Producer: revenue falls (from P1xQ1 to P2xQ2)
2. Consumer: price of the product rises (from P1 to P2)
3. Government: receives tax revenue [(P2-P3)xQ2]

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Forward diagonal lines: Tax burden on consumers

Backward diagonal lines: Tax burden on producers

Vertical lines: Deadweight loss (loss of consumer & producer surplus)

Tax incidence differs depending on the PED & PES of the product:
• Tax incidence on producer: (P1-P3)xQ2
• Tax incidence on consumer: (P2-P1)xQ2
• Price of the product: rises from P1 to P2
PED & PES (of a product)

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• After the tax is imposed, the producer would like to raise the price up to P1
and pass on all the tax to consumers
• However, there is excess supply, and by market mechanism, price has to fall
and a new equilibrium P2Q2 is formed
• At price P2, quantity Q2 is both demanded and supplied
P2-P1 Tax incidence on consumer

P1-P3 Tax incidence on producer

If a good with inelastic demand is taxed, the tax burden can be easily
passed on to the consumer (PED is less than PES)

P2-P1 Tax incidence on consumer

P1-P3 Tax incidence on producer

SUBSIDIES
Impact on markets
Subsidy: is an amount of money per unit of output paid by the
government to a firm.

Aim of providing subsidies:

1. Lower the price of essential goods to consumers ? government hopes that
consumption will increase
2. Guarantee the supply of products ? that government thinks is necessary for
the economy. i.e. power source
◦ OR provide employment to solve economic & social problems.
3. Enable producers to compete with overseas trade ? thus protecting home
industry
• When subsidies are provided, the market will expand in size (increase in
quantity), thus possibly raise the level of employment in the market, since
rms might employ more people.

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Supply curve shifts down because a subsidy reduces costs of production.

Consequences of providing a subsidy:

1. Producer: revenue increases

2. Consumer: price of the product decreases

• Change in consumer expenditure ? may increase or fall, depending on
relative saving and extra expenditure

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3. Government: expenditure increases (take money away from other
areas of expenditure or raise taxes)

PRICE CONTROLS
Price ceilings (maximum prices): rationale, consequences and examples
Price ceilings (maximum prices): is a situation where government sets a
maximum price, below the equilibrium price to prevent producers from
raising the price above it.
• Set to protect consumers
• Usually in markets of necessity or merit goods (good that would be
underprovided if the market were allowed to operate freely)
• I.e. Maximum food price controls during food shortage?ensure low-cost food
for the poor.
• I.e. Maximum rent controls?ensure affordable accommodation for those on
low incomes.

• If maximum price is imposed at Pmax, Q2 will be demanded because price

has fallen, but only Q1 will be supplied. ?excess demand

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• Eventually consumption will fall from Qe to Q1, even though it is at a lower
price
• Consumer expenditure ( rm’s revenue) will decrease
Consequences of maximum price:
1. Shortages: leads to forming of black market/underground parallel market
(where product is sold at a higher price, somewhere between Pe and Pmax.)
2. Non-price rationing mechanisms: Long queues or reservations → can
determine the order in which consumers are served.
3. Welfare impacts: Producer surplus decreases, consumer surplus increase
4. Inef cient resource allocation: allocatively inef cient
Impacts on stakeholders:
1. Consumers: lower prices, but have to go through non-price rationing
mechanisms
2. Producers: lower selling price → revenue decreases
3. Government: increase spending on solving the consequences → subsidize or
direct provision to shift the supply curve to right → reduce government
expenditure in other areas → opportunity cost
Price oors (minimum prices): rationale, consequences and examples
Price floors (minimum prices): is a situation where the government sets a
minimum price, above the equilibrium price to prevent producers from
reducing the price below it.
• Set to protect producers of goods & services that government thinks are
important. i.e. agricultural products
• To protect workers by setting minimum wage → ensure workers earn enough
to lead a reasonable existence

• If minimum price is imposed at Pmin, only Q1 will be demanded since the

price has risen, but Q2 will now be supplied. → excess supply
• Consumption will fall from Qe to Q1
• Consumer expenditure ( rm’s revenue) will decrease.

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Consequences of minimum price:
1. Surpluses: producer will be tempted to get around the price controls and sell
their excess supply for a lower price, somewhere between Pmin & Pe.
2. Disposal of the surplus by the government
3. Welfare impact: producer surplus increases, consumer surplus decreases
4. Inef cient resource allocation: allocatively inef cient
Impacts on stakeholders:
1. Consumers: higher prices
2. Producer: higher selling price → less cost-conscious → inef ciency & waste
of resources OR producing more of protected product than other products that
they could produce more ef ciently
3. Government: increase spending on solving the consequences → store,
destroy or selling the surplus abroad (dumping → harm other domestic
industries → angry reaction from foreign governments) OR increase demand
by advertising or restricting supplies of imports through protectionist policies
(thus increase demand for domestic products)

Market failure as a failure to allocate resources

ef ciently
Market failure: occurs when the condition for the market is allocatively
inefficient, resulting in an over-allocation of resources or an under-
allocation of resources.
• More (or less) is sold at a lower (or higher) price than is socially desirable.
Marginal private benefits: is the extra benefit to the entity consuming
or producing one additional unit.

Marginal social benefits: is the private benefit to the entity plus the
spill-over benefits to third parties of consuming or producing one
additional unit.

Marginal private costs: is the extra costs to the entity consuming or

producing one additional unit.

Marginal social costs: is the private costs to the entity plus the spill-
over costs to third parties of consuming or producing one additional unit.

The meaning of externalities

Externality: is an unintended side effect that result from production or
consumption of a good, affecting the third parties.

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• When this is externality, the market does not achieve a social optimum where
MSB=MSC
• Negative externalities → also called spill-over costs or social costs
• Positive externalities → also called spill-over bene ts or social bene ts

Social equilibrium: occurs at Ps, Qs

Internalizing an externality: is a government action to achieve socially

desirable equilibrium for the economy.

Negative externalities of production and consumption

Negative externalities of production: is a harmful side effect to the
society due to the production by a firm.

i.e. Factory releasing poisoning materials that are harmful to the area;
Power house burning fossil fuels, releasing greenhouse gases that would
cause global warming.

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• There is a misallocation of resources: too much is being produced at a too low
price than is socially desirable.
• There is a welfare lost to society of the extra units from Qp to Qs because
MSC is greater than MSB (shaded area)
Negative externalities of consumption: is a harmful side effect to the
society due to the consumption by an individual.

i.e. Smokers giving passive smoking to other people, causing them to get
illnesses.

• This is a misallocation of resources: too much is being consumed at a too

high price than is socially desirable.
• There is welfare lost to society of the extra units from Qp to Qs because MSC
is greater than MSB (shaded area)
Demerit goods: are goods that the government thinks are bad both for
the consumer and the society. They are over-provided by the market and
will be over-consumed.
• They are examples for negative externalities of consumption
Internalizing a negative externality:
1. Market based policies: Taxation & tradable permits → increase private costs
to rms → MPC shifts up towards the point of socially desirable equilibrium
2. Government regulations: Banning → stops the consumption or production
completely; Restricting outputs → increase private costs for rms to meet the
standard → MPC shifts up towards the point of socially desirable equilibrium
3. Publicity campaign → provide education on demerit goods OR fund negative
advertising on demerit goods → less consumption → shifts MPB to left
towards the point of socially desirable equilibrium

Positive Externalities of Production

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• Positive externalities of production are sometimes created during the production of a
good/service

• The market is failing due to under-provision of these goods/services as only the

private bene ts are considered by the producers and not the external bene ts
◦ If the external bene ts were considered, the supply would increase and they
would be sold at a lower price
◦ E.g. The production of honey increases the amount of bees in an area which
increases pollination potentially helping other food producers in the area\

Diagram Analysis
•The marginal social bene t
(MSB) is assumed to be
equal to the marginal private
bene t (MPB) as the focus
is on the producer side of
the market
•The free-market equilibrium
can be seen at PeQe. This
is where the MPC = MSB
•The larger the external
bene ts in production, the
larger the gap between the
MPC and the marginal
social cost (MSC)
• The optimum allocation of resources from society’s point of view would generate an
equilibrium where MSB = MSC. This can be found at PoptQopt. There is no market
failure at this equilibrium
• The free market is failing due to under-provision of this good/service equal to Qopt -
Qe
• There is a welfare loss to society (pink triangle) as the external bene ts could be
further maximised
• To be socially e cient, more factors of production should be allocated to producing
this good/service
• There is an opportunity for government intervention (indirect taxes, legislation,
regulation etc.), to force this market to be more socially e cient
• Any intervention that reduces the welfare loss will be bene cial

Positive Externalities of Consumption

• Positive externalities of consumption are created during the consumption of a good/
service (merit goods)

• The market is failing due to under-consumption of these goods/services as only the

private bene ts are considered by the consumers and not the external bene ts
◦ If the external bene ts were considered, the demand would increase and they
would be sold at a higher price
◦ E.g. Vaccinations protect those who receive them, but also prevent the spread
of disease to others around them

Diagram Analysis
•MSC is assumed to be
equal to the MPC as the
focus is on the consumer
side of the market

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• The free-market equilibrium can be seen at PeQe. This is where the MPB = MSC
• The larger the external bene ts in consumption (positive externality), the larger the
gap between the MPB and MSB
• The optimal allocation of resources from society’s point of view would generate an
equilibrium where MSB = MSC. This can be found at PoptQopt. There is no market
failure here
• The free market is failing due to an under-consumption of this good/service equal to
Qopt - Qe
• More factors of production should be allocated to producing the optimal quantity as
societal welfare will be gained (pink triangle)
• There is an opportunity for government intervention (subsidies, partial provision etc.)
to force this market to be more socially e cient
• Any intervention that gains welfare will be bene cial
Government Intervention to Address the Market Failure
1. Indirect (Pigouvian) taxes
A Pigouvian tax is a tax placed on a product with harmful side e ects (named after
Arthur Pigou), so as to increase its price and reduce the quantity demanded or the
supply. Useful to address market failure where goods are over-provided
2. Carbon taxes
A tax that producers who emit greenhouse gases have to pay. It sets a price on the
carbon content forcing producers to pay for each ton of emissions. This raises their
costs of production and should reduce supply. Useful to address market failure in
markets where there's high a carbon footprint
3. Producer subsidies
The government gives rms a xed amount of money per unit produced in order to
lower production costs and/or increase output of the product. Useful to address
market failure where goods are under-provided or consumed
4. Legislation and regulation
The government creates new laws (e.g. no single-use plastic bags) and then creates
an agency (e.g. environment agency) to regulate those laws. Useful to address market
failure where goods are over-provided or consumed
5. Education
The government funds advertising and education programs to educate the public on
the dangers (or sometimes the bene ts) of certain products e.g. anti smoking
campaigns. Useful to address market failure caused by the existence of merit and
demerit goods
6. Tradable permits
A mechanism which provides rms who emit greenhouse gases the option to buy a
permit to pollute when it is required. This increases their costs of production and
should reduce supply. If rms have permits that are no longer needed they are able to
sell them to other rms
7. International agreements
These are useful for issues which are global in nature and require a globally
coordinated response e.g. COP 27 agreements on climate change. Useful to address
market failure where the tragedy of the commons is occurring and the global trade in
demerit goods
8. Collective self-governance
Occurs when communities come together to take control of common pool resources
in an attempt to deal with the negative externalities associated with their use
9. Government provision
Governments will often choose to directly provide certain goods/services (merit
goods) in order to ensure that everyone in society has the same access. Useful to
address market failure where goods are under-provided

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