Slides for Economics

8/10/2019 Slides for Economics

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Long-run average cost curve (red

envelope curve of SACC curves)

Short-run average cost curve 1

Short-run average cost

curve 3

SACC 2SACC 4

Scale of productionMinimum efficient scale

Economies of scale

Unit cost of production

(Total Cost/ Output)

Tendency for natural monopoly if the minimum efficient scale (MES) of production is

only achieved with a large share of the total market, and operators incur a significantcost disadvantageby operating below the minimum efficient scale of production.

Diseconomies of scale


2/119

Long-run averagecost curve

Short-run average

cost curve 1Short-run average

cost curve 3

SACC 4

SACC 4

Scale of productionMinimum efficient scale

Diseconomies of scale

Unit cost of production

(Total Cost/ Output)


3/119

18501780 1900 1950 1990

Water power,textiles and iron(17801830).

Steel,steam

power andrailways(18301880).

Electricity,chemicals

and theinternal

combustionengine

(1880-1930)

Electronicsand aviation

(19301980)

Time

Internet andfibre optics

(1980onwards)

Innovation Waves


4/119

Economicactivity

Time

Recovery Prosperity Recession Depression

50 Years


5/119

EconomicGrowth (GDP)

Time

Prosperity Downturn

Recession

Business Cycle (often around 7 years)

Recovery

Recession

Zerogrowth

Negativeeconomic growth


6/119

Market Price()

Supply

Wheat Market

Demand

P

P is the equilibrium price, within the wheat market = Average Revenue = Marginal Revenue.

Quantity Quantity Quantity

Both firms A and B encounter the same revenue conditions.

AverageCost

AverageCost

Marginal CostMarginal Cost

A B

CD

Farm A Farm B


7/119

Minimum profit constraint

Profit

Profit maximisers output Sales maximisers output Sales

Profit


8/119

Profit ()

Growth (%)

Profit ()

Growth (%)

Profit ()

Growth (%)

Retained

earnings

Distributed

earningsProjectprofitabilityinitiallyrises

Projectprofitabilitythen falls

Optimum

Growth Rate

SupplyGrowthRelationship

DemandGrowthRelationship


9/119

Priceo

fbee

r()

Quantity (pints of beer)

0

0

5

1

2

3

4

10 20 30 40 50 60 70

Demand curve


10/119

Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

Consumers budget is 100 per weekPrice of bread is 1 per loafPrice of beer is 2 per pint

0

50Budget Line (budget constraint) presentsall product bundle combinations that aconsumer can purchase with their budget:100 loaves of bread (budget of 100/1)

50 pints of beer (budget of 100 / 2)


11/119

Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

Doubling the consumers budget from

100 per week to 200 per week willdouble the quantity of loaves and beer that

can be purchased with the availablebudget.This assumes that the price of theproducts remains unchanged: Price of bread is 1 per loaf Price of beer is 2 per pint

0

50

Budget Line 1

100

200

Budget Line 2


12/119

Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

Halving the consumers budget from 200

per week to 100 per week will halve thequantity of loaves and beer that can be

purchased with the available budget.

This assumes that the price of theproducts remains unchanged: Price of bread is 1 per loaf Price of beer is 2 per pint

0

50

Budget Line 1

100

200

Budget Line 2


13/119

Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

Consequence of doubling the consumersbudget from 100 per week to 200 perweek.

0

50

Budget Line 2

100

200

Budget Line 1

Indifference Curve 2

Indifference Curve 1


14/119

Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

0

50

Budget Line 1

100

200

Budget Line 2


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Quan

tity(Pints)o

fb

eerconsumed

Quantity of bread consumed

0 100

0

50

Budget Line 1

100

200

Budget Line 2

65

30

70 80

Doubling the price of beer from 2 per pint to 4per pint for a consumer earning 200 per week,will reduce beer consumption from 65 pints to 30pints per week, and increase consumption ofbread from 70 to 80 loaves per week.

((65 x 2) = 130) + ((70 x 1) = 70) = 200

((30 x 4)= 120) + ((80 x 1) = 80) = 200


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Quan

tity(Pints)o

fb

eerconsumed


0 100

0

50

Budget Line 1100

200

Budget Line (2)

65

30

70 8055

58

Initial Optimum

New optimum

Substitution effect

Indifference curve 1

Budget line 2parallel shift


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Quan

tity(Pints)o

fb

eerconsumed


0 100

0

50

Budget Line 1100

200

Budget Line (2)

65

30

70 8055

58

Initial Optimum

New optimum

Substitution effect



Income Effect


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Quan

tity(Pints)o

fb

eerconsumed


0 100

0

50

Budget Line 1100

200

Budget Line (2)

65

30

70 8055

58

Initial Optimum

New optimum

Substitution effect



Income Effect

AB

CIncome Effect

Substitution effect


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Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

0

50

Budget Line

100

200

Optimum


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Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

0

50

Indifference

Curve 1


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Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

0

50

Indifference

Curve 1

X

Y Marginal Rate of Substitution

X

Y

Marginal Rate of Substitution

Marginal Rate of Substitution is differentat each point on the Indifference Curve.


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Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

0

50

Indifference

Curve 1

Indifference

Curve 2


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Quan

tity(Pints

)o

fBeer

Quantity of Bread

0 100

0

50

Indifference

Curve 1

Indifference

Curve 2

A

C

B

Point C is preferable to point A. This is indicated by theconsumer acquiring more of both beer and bread atpoint C, relative to point A. However, the indifferencecurves suggest the consumer is indifferent betweenproduct bundles A and B, and also product bundles B

and C.It cannot be the case that an indifference curve is atsome points preferable to another indifference curve,and at other points equally desirable (or inferior) to theother indifference curve.

This situation contravenes the axiom of transitivity.


24/119

Price

/Un

itCos

t(pence

)

Quantity

Long-run Marginal Cost

Long-run Average Cost

Whole Market OutputQ

Average Revenue

Firm is loss-making when producing a level of output that isallocatively and productively efficient

Marginal Revenue

Monopoly makessuper-normal profitdespite inefficient

production

MC = MR

Lowest point of AC curve

Super-normal profit making monopoly outputQ1

AC

AC1

P1

P


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Price

/Un

itCos

t(pence

)

Quantity




Average Revenue


Marginal Revenue


AC

P


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Price

/Un

itCos

t(pence

)

Quantity




Average Revenue


Marginal Revenue

Monopoly makessuper-normal profitdespite inefficient

production

MC = MR

Price=M

C


Super-normal profit making monopoly outputQ1

AC

AC1


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Whole Market Individual Firm - Equilibrium

Demand Supply

EquilibriumPrice

Price()

Quantity demanded and suppliedEquilibrium Quantity

MR=AR

Price ()

Quantity

MarginalCost

AverageCost

Output


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Super-normal Profit Earning Firm

Price ()

MarginalCost

Output

Loss making firm

Price ()

MarginalCost

Output

Loss

Averagecost

MR = AR

Super-normal

profit

AverageCost

MC=MR

MC=MR

MR = AR


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Exchange Rate

($ / )

Demand for s


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Exchange Rate

($ / )

Supply of s


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Price

QuantityMR

MC

Each additional unit

produced generates

greater additional

revenue thanadditional cost.

Each additional

unit produced

generates

greater

additional cost

than additional

revenue.

Profit maximising output


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Price

Quantity

MR

MC

Each additional unit

produced generates

greater additionalrevenue than

additional cost.

Each additional

unit producedgenerates

greater

additional cost

than additional

revenue.

Profit maximising output


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Super-normalProfit

Cost/

Price ()

Marginal Cost

Output

Average

cost

MC=MR

AverageRevenue

MarginalRevenue

Price

Super normal profit

Cost


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Long - Term

Marginal Cost

Output

Average cost

MC=MR

Average

RevenueMarginal

Revenue

Price

Normal profits are earned at the profit

maximising output (MC=MR)


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Exchange Rate($ / )

Demand and Supply of s

Demand for sSupply of s

EquilibriumExchangeRate ($ / )

MoreDollars

Stronger

Fewer

Dollars

Weaker

At the equilibrium

exchange rate, currency

supply equals demand.


36/119

Price ()

Marginal Cost

Monopoly

output

MC=MR (monopoly)

AverageRevenueMarginal

Revenue

Monopoly

PricePrice in

perfect

competition

Perfect

competitionoutput

Price = MC (perfect competition)

Welfare loss to society.Consequence of allocativeinefficiency, due to monopoly outputbeing lower than perfect competitionoutput. Where lost units generate agreater value of satisfaction to

consumers than it costs themonopolist to produce. Ceterisparibus.


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Price ()

Marginal Cost

Monopoly

output

MC=MR (monopoly)


Revenue

Monopoly PricePrice in perfect

competition

Perfect

competitionoutput

Price = MC (perfect competition)

Transfer. Monopoly produceracquires some of the consumer surplus


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Price ()

Marginal Cost(perfect competition)


Revenue

Monopoly

PricePrice in

perfect

competition

Output is the same in both

monopoly and perfect competition.

Marginal Cost

(monopoly)

Lower costs of monopolistmay enable the monopolist toproduce the same output as aperfectly competitive industry,and charge the same price.


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Normal Market Demand Curve Oligopoly Firm Demand Curve

Kinked Demand Curve

Current MarketPrice

Firm expects price reduction may lead to price

war, preventing firm increasing sales and also

reducing industry profitability.

Firm expects that price increase would not

be replicated by other companies, causingcompany raising prices to suffer aconsiderable reduction in sales.


40/119

Average

revenueMarginal

revenue

Output

Marginal Cost 1

Marginal Cost 2Price

Price

Marginal cost can vary between MC1

and MC2 without affecting price

within the oligopoly market, due to

oligopoly being uncertain how their

competitors would respond to aprice change.


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Average

revenueMarginal

revenue

Output

Marginal Cost

Price

Price

MC cuts the lowest point ofthe AC curve

Profit

Super-normal profit

Average Cost

Costs


42/119

Price

Firms Demand Curve

Quantity

Price = MR = AR

AR = Average Revenue

MR = Marginal Revenue


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Price

Demand

Quantity


44/119

Price

Demand


45/119

Price

Demand


46/119

Price

Demand


47/119

Price

Quantity Supplied


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Price

Quantity Supplied


49/119

Price

Quantity Supplied


50/119

Price

Quantity Supplied

S

S 1


51/119

Price

Quantity Supplied

S 1

S


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Price

Quantity Demanded

D

D 1

Q Q 1

Marginal Social Cost (MSC)


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Price

Quantity Demanded and Supplied

Marginal Private Benefit (MPB)

SQ2 PQ 1

Marginal Social Benefit (MSB)


Marginal PrivateCost (MPC)



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Price



SQ2 PQ 1



Marginal PrivateCost (MPC)

Dead weightsocial

welfare loss


55/119

Price



SQ2 PQ 1


Marginal SocialCost (MSC)

Marginal Private

Cost (MPC)

Dead weight socialwelfare loss

Marginal Private Cost (MPC)


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Price



SQ2PQ 1



g ( )



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Price



SQ2PQ 1



g ( )

Potential socialwelfare gain


58/119

Price



SQ2PQ 1




Potential socialwelfare gain


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Price

Quantity Demanded

D 1

D

Q 1 Q


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61/119

Price

Demand

Elastic


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63/119

Income ()

Demand

Income elasticity is initially

positivedemand rises with

incomeNormal good.

Income elasticity is zerodemand is unaffected byincome changes.

Inferior goodRising incomesreduce the quantity demanded.


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Wage rate ()

Demand andSupply of Labour

Excesssupply

(surplus)

DL

QD QS

SL

W1. Market wagerate (above marketclearing wage rate)

W0. Marketclearing wagerate


65/119

Price

Quantity demandedand supplied

DS

Equilibrium price

Equilibrium

quantity

ConsumerSurplus

Producer

Surplus


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Price


DS

Equilibrium price

Equilibrium

quantity

ConsumerSurplus


67/119

Price


DS

Equilibrium price

Equilibrium

quantity

ConsumerSurplus

TotalConsumerPayments(Price xquantity)


68/119

Price


DS

Equilibrium price

Equilibrium

quantity

Producer

Surplus

TransferEarnings


69/119

Price


DS

Equilibrium price

Equilibrium

quantity

Economic

Rent /

ProducerSurplus


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71/119

Price ()

Quantity demanded andsupplied

D = MU

S = MC

Equilibrium Price

Equilibrium

quantity

ConsumerSurplus (A)

Producer

Surplus(B)

TransferEarnings

(C)


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Price ()

Quantity Demanded

and Supplied

D

QS1 QS2

Slong-run

P1

QE

Pe

P2

QS3

P3

QS4

P4

QS5

P5

Qs = Shortrun supply curves


73/119


74/119

Total Cost andTotal Revenue

Output

Total Cost

Total

Revenue

Zone of profit

Maximum

profit


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Profit ()

Growth (%)

Profit ()

Growth (%)

Profit ()

Growth (%)

Projectprofitabilityinitiallyrises

Project

profitability

then falls

Supply - Growth Demand - Growth

O

ptimum

g

rowthrate


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Real economy


77/119

Firms

Households

Flow ofGoods and

services

Flow of factors ofproduction (land,labour, capital andenterprise)

Injections into

Withdrawals


78/119

Firms

Households

FlowofGoodsa

ndservices.

Consumer

expenditureon

goodsandservices

Flowoffactorsofproduction

Flowoffa

ctorpayments

Injections intoCircular Flow

Investment

Governmentspending

Exports

Withdrawalsfrom CircularFlow

Saving

Taxation

Imports

Financial Markets


79/119

Classical view - Interest rate (price of borrowing, and income from deferredconsumption) in financial market equates saving and investment

Saving

Investment

Foreign Exchange Market

Classical view - Exchange rate (price of sterling)equates supply and demand for Sterling

Imports(

stoforeign

exchang

emarket)

Exports(sfromforeign

exchangemarket)

Government

Taxation

Balanced Budget

Consumer


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National Income

ConsumerExpenditure()

} a

Consumption

Y= National Income

b

C = a + bY

Autonomous consumer expenditure

Income derivedconsumer expenditure

45 degree line.


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National Income / Output

Expenditure ()

AggregateExpenditure

Expenditure = Income (45 degree line)

Expenditure = Output produced by the economy

K i 45 d Di


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Expenditure ()

AggregateExpenditure(upward sloping)

Expenditure = Income (45

degree line)

Keynesian 45 degree Diagram

Price Level


Aggregate Demand

(downward sloping)

Aggregate Demand CurveAggregate Expenditure

E pendit re () 45 degree line


83/119


Expenditure ()

Aggregate Expenditure


Injections = I + X + G


Expenditure ()

Withdrawals = S + M + T

45 degree line


84/119

NationalE di ()

AE 2


85/119


Expenditure ()

Deflationary gap

AE 0 (Equilibrium)


AE2 - Inflationary gap

} AE 1}

Y deflation Y inflationY equilibrium

Output(recessionary)Gap

NationalE dit ()


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Expenditure ()

Deflationary gap

AD 1

(Equilibrium)


} AD 0

Y deflation Y equilibrium

Output(recessionary)Gap

P i L l

Aggregate Supply Curve


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National Income

Price Level

Y2 - Full employment

level of national income

Aggregate

Demand 2

Initial Aggregate Demand

Y1Unemployed

Resources

P i L l


Aggregate Demand 3


88/119


Price Level



AggregateDemand 2

Aggregate Demand 3

P2

P3

Percentage change inmoney wages


89/119

money wages

Rate of unemployment (%)2.5%Full employmentX%

W%

Price Level


90/119

National Income

Price Level




Rising price level

below full

employment is

caused bybottlenecksdeveloping withineconomy.

P0

P1

Y0

Price Level


91/119

National Income

Price Level



Aggregate Supply CurveP0

P1

Y0

Price Level


92/119


Price Level

Y1 Full employment



P1

Y2

Aggregate Supply Curve 2

P2

Price Level


93/119


Price Level

Y1 Full employment



P1

Y2


P2

P3

P4

1

2

3

4


Percentagechange in Inflationary expectations = 5%


94/119

money wages

Rate of unemployment (%)2.5%

Natural Rate of Unemployment (NARU)

Or/

Non-Accelerating Inflation Rate ofUnemployment (NAIRU)

5%

Inflationary

expectations = 0

1

2 3

4


95/119

Rate of Interest Money Supply


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Quantity of Money

Demand for Money -

Liquidity Preference

Schedule (T +P + S)

Interestrate

Rate of InterestLiquidity Preference

S h d l (P + T + S)

Money

Supply

Money

Supply 2


97/119

Quantity of Money

Schedule (P + T + S)

Monetarist perspective

Interestrate

Interestrate 2

Rate of Interest


98/119

Desired investment expenditure

Interestrate 0

Interestrate 2

Marginal efficiency of

investment (MEI) curve

Investment expenditure 0 Investment expenditure 2

Rate of Interest MoneySupply

Money

Supply 2


99/119

Quantity of Money

Liquidity Preference

Schedule (P + T + S)

Keynesian perspective

Interestrate

Interestrate 2

Rate of Interest


100/119

Desired investment expenditure

Interestrate

Interestrate 2

Marginal efficiency of

investment (MEI) curve

Wage


101/119

Time

400

Average money holdingduring the month is 200.

Week 1 Week 2 Week 3 Week 4

Wage


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Time

100

Average moneyholding during

the month is 50.

Week 1 Week 2 Week 3 Week 4

50

Interest rate


103/119

BondYearsto maturity

One year Two year Threeyear

Fouryear

GovernmentBudget Position


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Budget Position

GDPY2 Y1 Y3

Governmentexpenditure

Taxation

Budget Deficit

Budget Surplus

GovernmentBudget Position


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Budget Position

GDPY2 Y1 Y3

Government expenditure

Taxation

Budget Deficit

Budget Surplus

Government expenditure 1

Net Exports (ExportsImports)


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TimeT1 T2 T3Trade Deficit

Trade Surplus

Policy initiative todepreciate currency.

Trade deficit initially becomes

worse, before getting better

Nation ultimately acquires thebenefits of a currency depreciation

TradeSurplus

TradeDeficit


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Cu

mulativeIncomeShare(%)

Cumulative Population Share (%)

20%

40%

60%

80%

100%

20% 40% 60% 80% 100%

Whole Market Individual Firm Equilibrium


109/119


Perfectly competitive firm is a wage taker

Demandfor labour

Supply oflabour

EquilibriumWage

Wage ()

Quantity demanded and supplied

Equilibrium Quantity

Wage rate

Price ()

QuantityQuantity

Demand for labour = Marginalrevenue product of labour



110/119


Perfectly competitive firm is a wage taker

Demandfor labour

Supply oflabour

W0

Price ()

Quantity demanded and supplied

Equilibrium Quantity

Wage rate 1

Price ()

QuantityQ1

Demand for labour = Marginalrevenue product of labourSupply of

labour 2

Wage rate 2W1

Q2

Government tax revenue ()


111/119

Marginal Tax Rate (%)

Percentagechange in

N t l R t f U l t

Inflationaryexpectations = 5%


112/119

money wages

Rate of unemployment (%)2.5%

Natural Rate of Unemployment(NARU)

Non-Accelerating Inflation Rate ofUnemployment (NAIRU)

5%

Inflationaryexpectations = 0

Firm infrastructure


113/119

Firm infrastructure

Human Resource Management

Technology Development

Procurement

Inbo

undLogistics

O

perations

Outb

oundLogistics

Marketingand

Sales

Service

Primary activities (end-to-end process)

SupportActivities

Philanthropy Area for Potential


114/119

Philanthropy

Pure commercial

benefitEconomic benefit

Socialb

enefit

Area for PotentialCorporate Shared Value

Redesign product propositions and redevelop marketsto reduce social need and increase social benefit.

Improve the external social context inways that are beneficial for both the companyand society.

Redesign value chain activities to reduce negativeexternalities, and promote positive externalities.

Backward (Upstream) Vertical Integration


115/119

Manufacturer

Horizontal

IntegrationCompetitorBy-product

Raw Material

Supplier

Component

SupplierFinancier /

credit providerLogistics

Machine

manufacturer

Bac

kward

Vert

ica

l

Forward (Downstream) Vertical Integration

Retail outlets/

wholesalers

Repairs and

servicing

Customer

support

Customer

financeLogistics

F

orward

V

ert

ica

l

Economists Production Chain isthe same as Porters Value System


116/119

Farm (source of raw materials).Economists refer to this type of activityoccurring within the primary sector.

Factory (manufacturing andprocessing). Economists refer to thistype of activity occurring within thesecondary sector.

Shop (services and retailing).

Economists refer to this type of activitybeing within the tertiary sector

Value System


117/119

Supplier A Supplier B Supplier C

Organisations Value Chain

A DistributionChannel Value Chain

B DistributionChannel Value Chain

C DistributionChannel Value Chain

A Customer ValueChain

B Customer ValueChain

A Customer ValueChain

UK SupplyPrice


118/119

UK Demand

European Supply

World Supply

P UK

P Euro

QUK

UK QEuro

P world

UK QWorld

Welfare gain from Britainentering European UnionTrade Creation effect.

UK Welfare gain fromfree world trade, ratherthan just free EuropeantradeTrade Diversion.

Quantity

=

Rearranging the optimum equation (shown above) will give:


119/119

MRS =

Optimum occurs where:

Optimum occurs where the Marginal Rate of Substitution (MRS) equals the ratio of prices =

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