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Announcements--Tuesday Read “Analysis of Competitive Markets”

in your readings packet For Discussion Sections, read the Nucor

articles Decide which two cases are the ones for

which you would like to do writeups At the end of class, drop your notecard

with name, major, career goal, in the box near the door.

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Announcements--Thursday Read “A Manager's Guide to

Government in the Marketplace,” in your readings packet

At the end of class, drop your notecard with name, major, career goal, in the box near the door.

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Week 2:

The Invisible Hand

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Exxon-Mobil

Number 2 in the Fortune 500

40,000 gas stations in world 15% of world gasoline

demand

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6

What you will learn today

How to explain to someone the benefits of a free market economy

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What good are free markets?

Free markets ____________________

They keep _______________________

They make sure ________________________________________________

maximize social surplus

whoever values a good

costs low and quality up

the most is the one who gets it

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The Invisible Hand

Adam Smith,__________ ______________________

The invisible hand ______

___________________________________________ “Greed is Good” True?

__________________________

Wealth ofNations (1776)

guides private interest to the public good

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Consumer Surplus Value is ____________________________________ The price is _____________________ Consumer surplus is _____________________________________________ The demand curve shows buyers’

____________

how much consumers are willing to pay

how much they have to pay the value consumers receive above and beyond the price they paid

willingness to pay

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The Demand for Carwashes

Demand

$4

$2.50

$5

$7

$11

$2

$10

1 4 6 Q (thousands ofcarwashes)

Price ($ percarwash)

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A

B

C

D

Reading: Figure 9.1

CS

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Producer Surplus The marginal cost is______________

______________________________ The price is _____________________ Producer surplus is _______________ _______________________________ The supply curve shows sellers’ _________________________

what producers get above and beyond their marginal cost

what they actually get

the lowest price at which sellers would sell an extra unit

willingness to sell

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The Supply of Carwashes

Supply

$4

$2.50

$5

$7

$11

$2

$10

1 4 6 Q (thousands ofcarwashes)

Price ($ percarwash)

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X

Y

Z

Reading: Figure 9.1

PS

COST

The area of a triangleis 1/2 heighttimes length:.5*h*l

Supply

Demand

$5

$11

$2

6 Q (thousands ofcarwashes)

Price ($ percarwash)

Consumer Surplus = .5 (11-5) (6-0) = .5 (6) (6) = 18

Producer Surplus = .5 (5-2)(6-0) = .5 (3) (6) = 9

Seller Cost = (2-0) (6-0) + .5 (5-2)(6-0) = 12 + 9 = 21

Buyer Value = Revenue + CS = 48Seller Revenue = Cost + PS = 30

PS

CS

COST

A

B

C

XY

Z

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The Invisible Hand vs. a $4 Price Ceiling

Who is hurt?

Supply

Demand

$4

$5

$8

$11

$2

$10

1 3 6 Q (thousands ofcarwashes)

Price ($ percarwash)

7

B

E

WD

A

Y

Reading: Figure 9.2,9.3, 9.4.

Who is helped by the $4 price?

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The $4 Price Ceiling Creates Deadweight Loss

If Quantity = 4:CS = .5(11-7)(4-0)+ (7-4)(4-0) = 8 +12 = 20PS = .5(4-2) (4-0) = 4CS + PS = 24DWL = 27-24 = 3

If Quantity = 6 CS = 18 PS = 9 CS + PS = 27 Supply

Demand

$4

$5

$7

$11

$2

$10

4 6 Q (thousands ofcarwashes)

Price ($ percarwash)

7

PS

CS

W

E

DWL

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Another Way to Calculate Deadweight Loss

DWL = .5*height*length =.5 (7-4) (6-4) = .5(3)(2) = 3

Supply

Demand

4

5

7

11

2

10

4 6 Q (thousands ofcarwashes)

Price ($ percarwash)

7

PS

CS

A

B

D

Y

W

E

DWL

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What is the deadweight loss if Q= 2?

(a) Between $0 and $2.99(b) Between $3 and $3.99(c) Between $4 and $10(d) Between $10.01 and $13(e) More than $13.01

Supply

Demand

4

5

7

11

2

9

4 6 Q (thousands ofcarwashes)

Price ($ percarwash)

72

3

(1/2) (9-3)(6-2)= 12

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Requirements for Perfect Competition

Well-Defined Property RightsMany Buyers and Sellers (Price takers)Homogeneous ProductFree Entry and ExitPerfect Information (on product, price) No Externalities (no spillovers)

______________________________ ______________________________ ______________________________ ______________________________ ______________________________ ______________________________

Well-Defined Property RightsMany Buyers and Sellers (price takers)Homogeneous ProductsFree Entry Perfect Information (on product, price) No Externalities (no spillovers)

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Is Gasoline Competitive? Well-Defined Property Rights? Many Buyers and Sellers? Homogeneous Product? Free Entry? Perfect Information? No Externalities?

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