Ragan: Economics: Fifteenth Canadian Edition

Ragan: Economics
Fifteenth Canadian Edition
Chapter 1
Economic Issues and
Concepts
Copyright © 2017 Pearson Canada Inc. 1-1

Course Schedule
Unit Chapter / Topic
1 Chapter 1: Economic Issues and Concepts
Chapter 2: Economic Theories, Data and Graph
2 Chapter 3: Demand, Supply, and Price
3 Chapter 4: Elasticity
Chapter 5: Markets in Action
4 Chapter 6: Consumer Behavior
5 Chapter 7: Productions in the Short Run
Chapter 8: Productions in the Long Run
6 Chapter 9: Competitive Markets Mid Exam (1.5 hours)
7 Chapter 10: Monopoly, Cartels, and Price Discrimination
Chapter 11: Imperfect Competition and Strategic Behavior
8 Chapter 12: Economic Efficiency and Public Policy
9 Chapter 13: How Factor Markets Work
10 Chapter 16: Market Failures and Government Intervention
11 Final Exam (2.5 hours)

Chapter Outline/Learning Objectives
Section Learning Objectives
Blank After studying this chapter, you will be able to
1.1 What is Economics? 1. explain the importance of scarcity, choice, and
opportunity cost, and how each is illustrated by the
production possibilities boundary.
1.2 The Complexity of 2. view the market economy as self-organizing in the
Modern Economies sense that order emerges from a large number of
decentralized decisions.
3. explain how specialization gives rise to the need for
trade, and how trade is facilitated by money.
4. identify the economy’s decision makers and see
how their actions create a circular flow of income
and expenditure.
1.3 Is There an Alternative 5. describe how all actual economies are mixed
to the Market economies, having elements of free markets,
Economy? tradition, and government intervention.

1.1 What Is Economics? (1 of 2)
Economics is the study of the use of scarce resources to satisfy
unlimited human wants.
Resources
A society’s resources are often divided into:
• Land: includes all natural endowments, such as arable land,

forests, lakes, crude oil, and minerals.
• Labour: includes all mental and physical human resources,

including entrepreneurial capacity and management skills.
• Capital: includes all manufactured aids to production, such as

tools, machinery and buildings.
1.1 What Is Economics? (2 of 2)
Resources
• Factor of Production: Economists call such resources factors
of production.
We divide what is produced into goods and services.
• Goods: Tangible
• Services: Intangible.
• Production: The act of making goods and services is called
production
• Consumption: The act of using them is called consumption.

Scarcity and Choice
Scarcity: Relative to our desires, existing resources are
scarce. There are enough resources to produce only a
fraction of the goods and services that we want.
Choice: Scarcity implies the need for choice.
Opportunity cost: is the value of the next best alternative
that is forgone when one alternative is chosen.
Opportunity cost is explained with the help of an example
given in next slide.

Opportunity Cost: Choosing Between Pizza and Beer (1 of 2)
The graph shows David’s budget line for beer and pizza
when David has only $16 to spend on these two goods. The
price of a beer is $4 and the price of a slice of pizza is $2.

Choosing Between Pizza and Beer (2 of 2)
The negatively sloped line indicates the boundary between

attainable and unattainable combinations.
Points that lie on or inside the budget line are attainable.
Points that lie outside

the budget line are
unattainable.
The opportunity cost of
an additional beer is
the 2 slices of pizza
given up to obtain it.
Applying Economic Concepts 1-1
The Opportunity Cost of Your University
Degree
Your university degree does not include only the

out-of-pocket expenses on tuition and books.
What else are you forced to give up to attend
university?

A Production Possibilities Boundary (PPB)
The PPB illustrates:

• scarcity
• choice
• opportunity cost
Points e and f show
scarcity; they are
unattainable with current
resources.
Points a, b, c, d show
choice. They are all
attainable, but which
one will be chosen?
Copyright © 2017 Pearson Canada Inc. 1 - 10
Fields of Economics
Macroeconomics: Study of the economy as a whole
Microeconomics: Study of the economic choices of

individual consumers and businesses
Four Key Economic Problems (1 of 4)
1. What is Produced and How?
• Resource allocation determines the quantities of
various goods that are produced.
• What determines which goods are produced and which
ones are not?
• Is there some combination of goods that is “better” than
others?

2. What is Consumed and by Whom?
• What determines the distribution of a nation’s total output
among its people?
• Who gets a lot and who gets a little, and why?
• Should governments care about this distribution of
consumption and if so, what tools do they have to alter it?
• Will the economy consume exactly the same goods that it
produces?

3. Why are Resources Sometimes Idle?
• An economy is operating inside its production possibilities

boundary if some resources are idle.
• Why are some resources idle?
• Should governments worry about idle resources?
• Is there some reason to believe that occasional idleness

is necessary for a well-functioning economy?

4. Is Productive Capacity Growing?
Figure 1-3 The Effect of Economic Growth on the PPB
• Growth in productive
capacity is shown by
an outward shift of
the PPB.
• Points e and f were
initially unattainable.
But after sufficient
growth, it becomes
attainable.
Economics and Government Policy
Questions relating to what is produced and how, and what is
consumed and by whom, fall within the area of microeconomics.
Questions relating to the idleness of resources and the growth of

the economy’s productive capacity fall within the area of
macroeconomics.

1.2 The Complexity of Modern Economies
(1 of 2)
The Nature of Market Economies

Self-Organizing
How are scarce resources allocated among competing uses?
Early economists noted that an economy based on free-market
transactions is self-organizing.
When individual consumers and producers act independently to
pursue their own self-interests, the collective outcome is
coordinated.

1.2 The Complexity of Modern Economies
(2 of 2)
Adam Smith (1723–1790)

In The Wealth of Nations, Smith was the first to develop
this insight fully: “It is not from the benevolence of the
butcher, the brewer, or the baker, that we expect our
dinner, but from their regard to their own interest. We
address ourselves, not to their humanity but to their
self-love, and never talk to them of our own necessities
but of their advantages.”
Adam Smith is saying that the massive number of economic
interactions that characterize a modern economy are not all
motivated by benevolence.

The Nature of Market Economies (1 of 2)
Efficiency
Resources available to the nation are organized so as to
produce the various goods and services that people want to
purchase and to produce them with the least possible amount
of resources.

The Nature of Market Economies (2 of 2)
Incentives and Self-Interest
• Individuals generally pursue their own self-interest.
• Individuals respond to incentives.
• Sellers usually want to sell more when prices are high
and buyers usually want to buy more when prices are
low.

The Circular Flow of Income and Expenditure

The Circular Flow of Income and Expenditure
Factor services flow from individuals through factor markets

to firms, who use them to produce goods and services.
The goods and services flow from firms through goods
markets to households.
Money payments flow from firms to individuals through factor
markets.
And when households use this income to buy goods and
services, the money flows from households to firms through
goods markets.

Types of Economic Systems
Planned System - Free Market System - Mixed Market System
Increasing Government Control
Free Market
Planned
Communism Socialism Capitalism
Decreasing Social Services
Mixed Market
Economy
How Economic Systems Compare
Ragan: Economics
Chapter 2
Economic Theories, Data, and
Graphs

2.1 Positive and Normative 1. distinguish between positive and normative statements.
Statements
2.2 Building and Testing 2. explain why and how economists use theories to help
Economic Theories them understand the economy.
3. understand the interaction between economic theories
and empirical observation.
2.3 Economic Data 4. identify several types of economic data, including index
numbers, time-series and cross-sectional data, and
scatter diagrams.
2.4 Graphing Economic 5. see that the slope of a line on a graph relating two
Theories variables shows the “marginal response” of one variable
to a change in the other.
2.1 Positive and Normative Statements
Normative statements depend on value judgements and cannot be

evaluated solely by a recourse to facts.
A normative statement is about what ought to be.
Positive statements do not involve value judgments. They are
statements about matters of fact.
A positive statement is about what actually is, was, or will be.
ACTIVE LEARNING:
Identifying positive vs. normative
Which of these statements are “positive” and which are
“normative”? How can you tell the difference?
a. Prices rise when the government increases the quantity of money.
b. The government should print less money.
c. A tax cut is needed to stimulate the economy.
d. An increase in the price of gasoline will cause an increase in consumer demand
for video rentals.
28
ACTIVE LEARNING:
Answers
a. Prices rise when the government increases the

quantity of money.
Positive, describes a relationship, could use data to
confirm or refute.
b. The government should print less money.
Normative, this is a value judgment, cannot be
confirmed or refuted.
29
ACTIVE LEARNING:
Answers
c. A tax cut is needed to stimulate the economy.
Normative, another value judgment.
d. An increase in the price of gasoline will cause an
increase in consumer demand for video rentals.
Positive, describes a relationship.
Note that a statement need not be true to be positive.
30
Economic Data
Index Numbers
Index number is a technique of measuring changes in a variable or group
of variables with respect to time, geographical location or other
characteristics.
An index number is a measure of some variable, conventionally expressed

relative to a base period, which is assigned the value 100.
Absolute value in given period

Value of index in given period = ´ 100
Absolute value in base period
Why We Calculate Index Number
How to Calculate Index Number
Graphing Economic Data
Cross-sectional data: Cross sectional data is collected at a particular point of
time.
Example: 1) You are studying the GDP of 3 developing countries (China,
India and Pakistan) in the year 2019 only.
2) Household Survey for variables income, saving, family size etc in 2019
only.
Time-series data: Data collected in extended period of times.

Example: 1) You are studying GDP of Canada from 2010-2019.
2) Household survey from 2010-2019
.
Pool Data: When Cross-section and Time-Series are combined. Multi-
dimensional data involving measurements over time.
Example: You are studying the GDP of 3 developing countries (China, India
and Pakistan) from 2010-2019
Longitudinal or panel data: Contains observations on multiple

entities (individuals) where each entity is observed at two or more
points in time.
Example: Data of 10 Canada provinces. Each province is observed
in 5 years, for a total 50 observations.
Another way to represent data is with a scatter diagram.
A scatter diagram is a graph showing two variables, one measured on the

horizontal axis and the other on the vertical axis. Each point represents the
values of the variables for a particular unit of observation.
A Cross-Sectional Graph of Average House Prices
for Ten Canadian Provinces, 2015
2.4 Graphing Economic Theories
When one variable, X, is related to another variable, Y, in such a
way that to every value of X there is only one possible value of Y,
we say that Y is a function of X.
A function can be expressed
Example:
• in a verbal statement When income is zero, the
• in a numerical schedule (a table) person will spend $800 a
• in a mathematical equation year, and for every extra
• in a graph $1 of income the person
will increase expenditure
by 80 cents.
C= $800 + 0.8Y
Figure 2-6 Income and Consumption
Annual Consumption Reference

Income Letter
$ 0 $ 800 p
2 500 2 800 q
5 000 4 800 r
7 500 6 800 s
10 000 8 800 t
Graphing Functions
• When two variables move together, the variables are positively

related.
• When two variables move in opposite directions, the variables are
negatively related.
• If the graphs of these relationships are straight lines, the variables are
linearly related to each other.
• A function that is not graphed as a straight line is a non-linear
function.
Four Linear Relationships
Let X be the variable measured on the horizontal axis and Y be the

variable measured on the vertical axis.
The slope of a straight line is calculated as  Y/ X.

What Is the Slope of the Function
Figure 2-6 Income and Consumption

Four Non-Linear Relationships
A maximum occurs when a positive slope is followed by a negative slope,

and a minimum occurs when a negative slope is followed by a positive
slope.
Some Specific Examples (1 of 2)
Figure 2-8 Non-linear Pollution Reduction

Some Specific Examples (2 of 2)
Figure 2-10 Profits as a Function of Output
Class Activity
• Choice land has 250 workers and produces only two goods, X and Y. Labour is the only factor
of production, but some workers are better suited to producing X than Y (and vice versa). The
Table below shows the maximum levels of output of each good possible from various levels
of labout input
a) Draw the production possibilities boundary on a scale diagram, with the production of X
on the horizontal axis and the production of Y on the vertical axis.
b) If the economy is producing 40 units of X and 600 units of Y, what is the opportunity cost
of producing an extra 20 units of X
Learning Activity 2
Suppose the relationship between the

government's tax revenue (T) and national income
(Y) is represented by the following equation: T =
10 + 0.25Y. Plot this relationship on a scale
diagram, with (Y) on the horizontal axis and (T)
on the vertical axis. Interpret the equation.

Chapter 3
Demand, Supply, and Price
2 - 49
Course Schedule
Period Unit Chapter / Topic
7 Oct – 13 Oct 1 Chapter 1: Economic Issues and Concepts
14 Oct – 20 Oct 2 Chapter 3: Demand, Supply, and Price
21 Oct – 27 Oct 3 Chapter 4: Elasticity
28 Oct – 03 Nov 4 Chapter 6: Consumer Behavior
04 Nov – 10 Nov 5 Chapter 7: Productions in the Short Run
11 Nov – 17 Nov 6 Chapter 9: Competitive Markets
Mid Exam (1.5 hours)
18 Nov – 24 Nov 7 Chapter 10: Monopoly, Cartels, and Price Discrimination
25 Nov – 1 Dec 8 Chapter 12: Economic Efficiency and Public Policy
02 Dec – 08 Dec 9 Chapter 13: How Factor Markets Work

09 Dec - 15 Dec 10 Chapter 16: Market Failures and Government Intervention
15 Dec – 21 Dec 11 Final Exam (2.5 hours)

3.1 Demand 1. list the factors that determine the quantity
demanded of a good.
2. distinguish between a shift of the demand curve
and a movement along the demand curve.
3.2 Supply 3. list the factors that determine the quantity
supplied of a good.
4. distinguish between a shift of the supply curve and
a movement along the supply curve.
3.3 The Determination of Price 5. explain the forces that drive market price to
equilibrium, and how equilibrium price is affected
by changes in demand and supply.
DEMAND
• Quantity demanded is the amount of a good that

buyers are willing and able to purchase.
• Law of Demand
The law of demand states that, other things being equal, the
quantity demanded of a good falls when the price of the
good rises and vise-versa.
• Demand Schedule
The demand schedule is a table that shows
the relationship between the price of the
good and the quantity demanded.
• Demand Curve
The demand curve is a graph of the relationship
between the price of a good and the quantity
demanded.
Price of
Ice-Cream Cone
$3.00
2.50
2.00
1.50
1.00
0.50
0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of
Ice-Cream Cones
Figure 1: Jim’s Demand Schedule and
Demand Curve
Price of
Ice-Cream Cone
$3.00
2.50
2.00
1.50
1.00
0.50
0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of
Ice-Cream Cones
Demand Curve
https://www.youtube.com/watch?v=kUPm2tMCbGE
Market Demand versus Individual Demand
• Market demand refers to the sum of all individual

demands for a particular good or service.
• Graphically, individual demand curves are

summed horizontally to obtain the market
demand curve.
The Market Demand “Schedule”
The quantity demanded in the market is the sum of the
quantities demanded by all buyers at each price.
• Suppose Jim and Kim are the only two buyers in the Ice-
cream market. (Qd = quantity demanded)
Price Jim’s Qd Kim’s Qd Market Qd

$0.00 12 + 7 = 19
1.00 8 + 5 = 13
2.00 4 + 3 = 7
3.00 0 + 0 = 0
The Market Demand “Curve”
The market demand curve is the horizontal sum of the
individual demand curves!
Jim’s Demand + Kim’s Demand = Market Demand
Price of Ice- Price of Ice- Price of Ice-
Cream Cone Cream Cone Cream Cone
2.00 2.00 2.00
1.00 1.00 1.00
3 5 7 13
4 8
Quantity of Ice-Cream Cones Quantity of Ice-Cream Cones Quantity of Ice-Cream Cones
When the price is $1.00, When the price is $1.00, The market demand at
Jim will demand 8 ice- Kim will demand 5 ice- $1.00, will be 13 ice-
cream cones. cream cones. cream cones.
“Changes in Quantity Demanded”
Versus “Changes in Demand”
• Change in Quantity Demanded
• Movement along the demand curve.
• Caused by a change in the price of the product.
• Change in Demand
• Shift of the demand curve.
• Caused by changes in “other things”, other than the
price of the product.
Changes in Quantity Demanded
Price of Ice-Cream
Cones
A tax on sellers of ice-cream
cones raises the price of ice-
B cream cones and results in a
$2.00 movement along the demand
curve.
A
1.00
D
0
4 8 Quantity of Ice-Cream Cones
Changes in Demand
• The demand curve shows how price affects quantity demanded, other things
being equal.
• These “other things” are non-price determinants of demand (i.e., things that
determine buyers’ demand for a good, other than the good’s price).
• Changes in them shift the Demand Curve either to the left or to the right.
• Non-Price Determinants:
• Consumer income
• Prices of related goods
• Tastes
• Future Expectations
• Number of buyers
• Advertising
Figure 3 Shifts in the Demand Curve
Price of
Ice-Cream
Cone
Increase
in demand
Decrease
in demand
Demand
curve, D2
Demand
curve, D1
Demand curve, D3
0 Quantity of
Ice-Cream Cones
Shifts
• Consumer in the
Income Demand Curve
• As income increases, the demand for a normal good will increase.
• As income increases, the demand for an inferior good will decrease.
Normal good: a good for which, other things equal, an increase in income leads to an
increase in demand
Inferior good: a good for which, other things equal, an increase in income leads to a
decrease in demand
Consumer Income Normal Good
Price of Ice-
Cream Cone
$3.00 An increase
2.50 in income...
Increase
2.00 in demand
1.50
1.00
0.50
D2
D1 Quantity of
Ice-Cream
0 1 2 3 4 5 6 7 8 9 10 11 12 Cones
Consumer Income Inferior Good
Price of Ice-
Cream Cone
$3.00
2.50 An increase
2.00
in income...
Decrease
1.50 in demand
1.00
0.50
D2 D1 Quantity of
Ice-Cream
0 1 2 3 4 5 6 7 8 9 10 11 12 Cones
Shifts in the Demand Curve
• Prices of Related Goods

• When a fall in the price of one good reduces the demand for another good,
the two goods are called substitutes.
• When a fall in the price of one good increases the demand for another good,
the two goods are called complements.
PRICES OF RELATED GOODS
Substitute Goods Complementary Goods
• Two goods are Substitutes if • Two goods are complements if
an increase in the price of one causes an increase in the price of one causes
an increase in demand for the other. a fall in demand for the other.
• Example: Pizza and Hamburgers. • Example: computers and software.
An increase in the price of pizza If price of computers rises, people
ncreases demand for hamburgers, buy fewer computers, and therefore
shifting hamburger demand curve to less software.
the right. Software demand curve shifts left.
• Other examples: Coke and Pepsi, • Other examples: college tuition and
laptops and desktop computers, textbooks,
compact discs and music downloads bagels and cream cheese, eggs and
bacon
Table 1: Variables that affect “Demand”
Shifts in the Demand Curve versus Movements along the Demand Curve
If warnings on cigarette packages By contrast, if a tax raises the price of

convince smokers to smoke less, the cigarettes, the demand curve does not
demand curve for cigarettes shifts to the shift. Instead, we observe a movement to a
left. different point on the demand curve.
Shifting in Demand Curve
https://www.youtube.com/watch?v=_8T8glylB
Fc
SUPPLY
• Quantity supplied is the amount of a good that sellers

are willing and able to sell.
• Law of Supply
The law of supply states that, other things equal, the
quantity supplied of a good rises when the price of the good
rises and vice-versa..
• Supply Schedule
The supply schedule is a table that shows the
relationship between the price of the good and the
quantity supplied.
The Supply Curve: The Relationship between
Price and Quantity Supplied
• Supply Curve
The supply curve is the graph of the relationship between the price of a good
and the quantity supplied.
Figure 5 Basim’s Supply Schedule and Supply
Curve
Price of
Ice-Cream
Cone
$3.00
2.50
1. An
increase
in price ... 2.00
1.50
1.00
0.50
0 1 2 3 4 5 6 7 8 9 10 11 12 Quantity of
Ice-Cream Cones
2. ... increases quantity of cones supplied.
Supply Curve
https://www.youtube.com/watch?v=nKvrbOq1OfI
Market Demand versus Individual Demand
Market Supply versus Individual Supply
• Market supply refers to the sum of all individual

supplies for all sellers of a particular good or service.
• Graphically, individual supply curves are summed

horizontally to obtain the market supply curve.
“Changes in Quantity Supply”
Versus “Changes in Supply”
• Change in Quantity Supply
• Movement along the supply curve.
• Caused by a change in the price of the product.
• Change in Supply
• Shift of the supply curve.
• Caused by changes in “other things”, other than the
price of the product.
Changes in Quantity Supply
Price of Ice-
Cream S
Cone
C
$3.00
A rise in the price
of ice cream
cones results in a
movement along
A the supply curve.
1.00
Quantity of
Ice-Cream
0 1 5 Cones
Changes in Supply
• The Supply curve shows how price affects quantity supplied, other things
being equal.
• These “other things” are non-price determinants of supply (i.e., things that
determine sellers’ supply of a good, other than the good’s price).
• Changes in them shift the Supply Curve either to the left or to the right.
• Non-Price Determinants:
• Input Prices
• Technology
• Future Expectations
• Number of sellers
Figure 7 Shifts in the Supply Curve
Price of
Ice-Cream Supply curve, S3
Supply
Cone
curve, S1
Supply
Decrease curve, S2
in supply
Increase
in supply
0 Quantity of
Ice-Cream Cones
Table 2: Variables That Influence Sellers
Shifting in Supply Curve
https://www.youtube.com/watch?v=5iyCwbvJc_U
SUPPLY & DEMAND TOGETHER
(Market Equilibrium)
Equilibrium refers to a situation in which the price has

reached the level where quantity supplied equals
quantity demanded.
• Equilibrium Price
• The price that balances quantity supplied and quantity demanded.
• On a graph, it is the price at which the supply and demand curves
intersect.
• Equilibrium Quantity
• The quantity supplied and the quantity demanded at the equilibrium
price.
• On a graph it is the quantity at which the supply and demand curves
intersect.
Demand Schedule Supply Schedule
At $2.00, the quantity demanded is equal to

the quantity supplied!
Figure 8 The Equilibrium of Supply and
Demand
Price of
Ice-Cream
Cone Supply
Equilibrium price Equilibrium

$2.00
Equilibrium Demand
quantity
0 1 2 3 4 5 6 7 8 9 10 11 12 13
Quantity of Ice-Cream Cones
The Algebra of Market Equilibrium
Demand: Qd = a - bp
Supply: Qs = c + dp
Demand = Supply
Qd = Qs
a – bp = c + dp
Example
Qd= 18 - 3p
Qs = 2 + 5p
Demand and Supply Together
https://www.youtube.com/watch?v=7eZcPs9z9
OA
• Surplus
• When price > equilibrium price, then quantity supplied > quantity demanded.
• There is excess supply or a surplus.

• Suppliers will lower the price to increase sales, thereby moving toward equilibrium.
Figure 9 Markets Not in Equilibrium
(a) Excess Supply
Price of
Ice-Cream Supply
Cone Surplus
$2.50
2.00
Demand
0 4 7 10 Quantity of
Quantity Quantity Ice-Cream
demanded supplied Cones
Equilibrium
• Shortage
• When price < equilibrium price, then quantity demanded > the quantity
supplied.
• There is excess demand or a shortage.
• Suppliers will raise the price due to too many buyers chasing too few goods, thereby
moving toward equilibrium.
Figure 9 Markets Not in Equilibrium
(b) Excess Demand
Price of
Ice-Cream Supply
Cone
$2.00
1.50
Shortage
Demand
0 4 7 10 Quantity of
Quantity Quantity Ice-Cream
supplied demanded Cones
Equilibrium
• Market Equilibrium
The mechanism in which the price of any good adjusts to bring the quantity
supplied and the quantity demanded for that good into balance.
Table 3
Three Steps for Analyzing Changes in
Equilibrium
Figure 10 How an Increase in Demand Affects
the Equilibrium
Price of
Ice-Cream 1. Hot weather increases
Cone the demand for ice cream . . .
Supply
$2.50 New equilibrium
2.00
2. . . . resulting
Initial
in a higher
equilibrium
price . . .
D
0 7 10 Quantity of
3. . . . and a higher Ice-Cream Cones
quantity sold.
Three Steps to Analyzing Changes in
Equilibrium
Shifts in Curves versus Movements along Curves
• A shift in the supply curve is called a change in supply.
• A movement along a fixed supply curve is called a change in

quantity supplied.
• A shift in the demand curve is called a change in demand.
• A movement along a fixed demand curve is called a change in

quantity demanded.
Figure 11 How a Decrease in Supply Affects
the Equilibrium
Price of
Ice-Cream 1. An increase in the
Cone price of sugar reduces
the supply of ice cream. . .
S2
S1
New
$2.50 equilibrium
2.00 Initial equilibrium
2. . . . resulting
in a higher
price of ice
cream . . . Demand
0 4 7 Quantity of
3. . . . and a lower Ice-Cream Cones
quantity sold.
Table 4
What Happens to Price and Quantity
When Supply or Demand Shifts?
SUMMARY
• The demand curve shows how the quantity of a good depends upon the
price.
• According to the law of demand, as the price of a good falls,
the quantity demanded rises. Therefore, the demand curve
slopes downward.
• In addition to price, other determinants of how much
consumers want to buy include income, the prices of
complements and substitutes, tastes, expectations, and the
number of buyers.
• If one of these factors changes, the demand curve shifts.
SUMMARY
• The supply curve shows how the quantity of a good supplied depends
upon the price.
• According to the law of supply, as the price of a good rises,
the quantity supplied rises. Therefore, the supply curve
slopes upward.
• In addition to price, other determinants of how much
producers want to sell include input prices, technology,
expectations, and the number of sellers.
• If one of these factors changes, the supply curve shifts.
SUMMARY
• Market equilibrium is determined by the intersection of the supply and
demand curves.
• At the equilibrium price, the quantity demanded equals the quantity
supplied.
• The behavior of buyers and sellers naturally drives markets toward their
equilibrium.
SUMMARY
• To analyze how any event influences a market, we use the supply-and-
demand diagram to examine how the event affects the equilibrium price
and quantity.
• In market economics, prices are the signals that guide economic
decisions and thereby allocate resources.
yes, we’ve done it!
Assignment No 1
• Details of Assignment No. 1 is uploaded in “important announcement”
• Please use world file only and write your name and ID on the top of your
assignment.
• All answers must be written with proper question number.
• Save your file of written assignment with your full name

Graded of Assessment
% of Final
Graded Item Due Date
Grade
Learning Activities (Class
/27 Units 1, 2, 3, 4, 5, 7, 8, 9, and 10
exercises and/or quizzes)
Assignments /13 Units 2, 4, 6, 8, and 10
Midterm (in-class - 1.5 hours) /25 Unit 6
Final Exam (in-class - 2.5 hours) /35 Unit 11
Total /100
Learning Activity 3
The following supply and demand schedules describe a hypothetical Canadian
market for potash.
Price Quantity Supplied Quantity Demanded
($ per Tonne) (million tonnes) (million tonnes)
280 8.5 12.5
300 9.0 11.0
320 9.5 9.5
340 10.0 8.0
360 10.5 6.5
380 11.0 5.0
1. What is the equilibrium price of potash?

2. How much potash would actually be purchased if the price was $280 per tonne?
3. How much potash would actually be sold if the price was $360 per tonne?
4. At a price of $280 per tonne, is there excess supply or demand? How much?
5. At a price of $360 per tonne, is there excess supply or demand? How much?
6. If the price is $280 per tonne, describe the forces that will cause the price to
change.
7. If the price is $360 per tonne, describe the forces that will cause the price to
change.
Learning Activity 3
The following events listed below has an impact on the market for Car. For
each event, which curve is affected (supply or demand for Car), what
direction is it shifted, and what is the resulting impact on equilibrium price
and quantity of Car? (Draw graph for each event)
Questions
1. The price of car decrease in the market

2. The price of steel used to make car frames increases.
3. An environmental movement shifts tastes toward bicycling.
4. Consumers expect the price of car to fall in the future.
5. A technological advance in the manufacture of car occurs.
Ragan: Economics
Chapter 4
Elasticity

Course Schedule

6 Chapter 9: Competitive Markets
4.1 Price Elasticity of Demand 1. explain what price elasticity of demand is and how it is
measured.
2. explain the relationship between total expenditure and
price elasticity of demand.
4.2 Price Elasticity of Supply 3. explain what price elasticity of supply is and how it is
measured.
4.3 Elasticity Matters for 4. see how elasticity of demand and supply determine the
Excise Taxes effects of an excise tax.
4.4 Other Demand Elasticities 5. measure the income elasticity of demand and be able to
distinguish between normal and inferior goods.
6. measure cross elasticity of demand and be able to
distinguish between substitute and complement goods.
Types of Elasticity of Demand
• Price Elasticity of Demand

• Income Elasticity of Demand
• Other Elasticity of Demand (Cross-price elasticity of demand)
4.1 Price Elasticity of Demand
Elastic Demand: Demand is elastic when quantity demanded is quite responsive to
changes in price. Elastic Demand > 1
Inelastic Demand: When quantity demanded is relatively unresponsive to changes in
price, demand is inelastic.
Inelastic Demand < 1
Unit Elastic Demand: Demand is unit elastic when quantity demanded is equal to
changes in price Unit Elastic Demand = 1
Perfect Inelastic Demand: Demand is Perfect Inelastic when quantity demanded is
zero to changes in price.
Perfect Inelastic Demand = 0
Perfect Elastic Demand: Demand is Perfect Elastic when quantity demanded is
infinite to changes in price.
Perfect Elastic Demand = œ
Price Elasticity of
Demand
Shapes of Curves
The Measurement of Price Elasticity
Elasticity (Greek letter eta:) is defined as:

Percentage change in quantity demanded

Percentage change in price
 Q / Qave

 p / pave
where pave and Qave are the average price and average quantity.
A demand curve has a negative slope, so the percentage changes in
price and quantity have opposite signs. Although demand elasticity
is a negative number we ignore the negative sign and report the
elasticity of demand as a positive number.
A Numerical Example of Price Elasticity
Product Original New Price Average Original New Average
Price Price Quantity Quantity Quantity
Pair of
fuzzy $9.00 $8.00 $8.50 2000 3000 2500
slippers

 3000 – 2000  / 3000  2000  / 2
 8  9  / 8  9  / 2

1000  /  2500 
1 / 8.5 
0.4
  3.40
0.1176
Figure 4-2 Elasticity Along a Linear Demand
Curve
A negatively sloped linear demand curve has a constant slope but does
not have constant elasticity.
What Determines Elasticity of Demand? (1 of 2)
Availability of Substitutes
1. Close Substitute: Products with close substitutes tend to have elastic
demands; products with no close substitutes tend to have inelastic
demands.
2. Narrowly Define Market: Narrowly defined products have more elastic

demands than do more broadly defined products.
What Determines Elasticity of Demand? (2 of 2)
3. Short Run and Long Run
• In the short run, demand is less elastic.
• In the long run, demand is more elastic.

Figure 4-4 Short-Run and Long-Run
Equilibrium Following an Increase in Supply
The changes depend on the
time that consumers have
to respond.
In the long run, demand is

more elastic.
Elasticity and Total Expenditure
Total expenditure = Price X Quantity

How does total expenditure change when the price falls?
When price falls, quantity demanded increases.
1. If demand is elastic, the quantity change dominates and total revenue
rises.
2. If demand is inelastic, the price change dominates and total revenue
falls.
3. If demand is unit elastic, the percentage change in quantity demanded
equals the percentage change in price and total revenue remains
unchanged.
Figure 4-5 Total Expenditure and Quantity Demanded
When demand is elastic,

total revenue increases
when price falls.
When demand is
inelastic, total revenue
decreases when price
falls.
Total revenue reaches a
maximum when demand
is unit elastic.
4.2 Price Elasticity of Supply
Price elasticity of supply is a measure of the responsiveness of quantity

supplied to a change in the product’s own price.
It is denoted by s and is defined as:
Percentage change in quantity supplied

S 
Percentage change in price
 Q / Qave
S 
 p / pave
Figure 4-6 Computing Price Elasticity of
Supply
Determinants of Supply Elasticity (1 of 2)
1. Ease of Substitution
If the price of a product rises, how much more can be produced
profitably depends on how easy it is for producers to shift from the
production of other products to the one whose price has risen.
Determinants of Supply Elasticity (2 of 2)
Short Run and Long Run

The short-run supply curve shows the immediate response of quantity
supplied to a change in price given producers’ current capacity to
produce the good. Supply less elastic in short run
The long-run supply curve shows the response of quantity supplied to a
change in price after enough time has passed to allow producers to
adjust their productive capacity.
Supply more elastic in long run
Figure 4-7 Short-Run and Long-Run
Equilibrium Following an Increase in Demand
4.3 Elasticity Matters for Excise Taxes (1of 2)
Excise Tax: A tax on the sale of a particular product.
Tax Incidence: Who actually bears the burden of this tax?

The burden of an excise tax is distributed between consumers and sellers in
a manner that depends on the relative elasticities of supply and demand.
4.3 Elasticity Matters for Excise Taxes (2 of 2)
Figure 4-8 The Effect of a Gasoline Excise Tax
An excise tax raises the

price paid by consumers
but reduces the price
received by producers.
Figure 4-9 Elasticity and the Incidence of an
Excise Tax
With an excise tax, the price paid by the consumer is pc and the price
received by the seller is ps. The consumer price and the seller price differ
by the amount of the tax, t.
4.4 Other Demand Elasticities
Income Elasticity of Demand
Percentage change in quantity demanded

ηY 
Percentage change in income
If Y > 0, the good is a normal good.
If Y < 0, the good is an inferior good.

Normal Goods
• If income elasticity is positive but less than one, demand is income

inelastic. Y < 1
• If income elasticity is positive and greater than one, demand is income
elastic. Y >1
• Products for which the income elasticity of demand is positive but less
than 1 are necessities.
• Products for which the income elasticity of demand is positive and greater
than 1 are luxuries.
• The more necessary an item is in the consumption pattern of consumers,
the lower is its income elasticity.
Cross Elasticity of Demand (1 of 2)
Percentage change in quantity demanded of good X

ηXY 
Percentage change in price of good Y
If X > 0, then X and Y are substitutes.

Y
If XY < 0, then X and Y are complements.

Other Demand Elasticities
Cross-price elasticity of demand
• If Ecp is Positive (+), it means two goods are

substitutes. (for example Ecp = +1.3).
• If Ecp is Negative (-) , it means two goods are

Complementary goods. (for example Ecp = -1.3)
• If Ecp is Zero (0), it means two goods are

Unrelated or independent. (for example Ecp = 0)
CHAPTER 5 ELASTICITY AND ITS APPLICATION

134
Ragan: Economics
Chapter 5
Price Controls and Market
Efficiency

5.1 Government-Controlled Prices 1. describe how the presence of legislated price
ceilings and price floors affect equilibrium price
and quantity.
5.2 Rent Controls: A Case Study of 2. compare the short-run and long-run effects of
Price Ceilings legislated rent controls.
5.3 An Introduction to Market 3. describe the relationship between economic
Efficiency surplus and the efficiency of a market.
4. explain why government interventions that cause
prices to deviate from their market-clearing levels
tend to be inefficient for society as a whole.
Price Control
1. Price Floors (1 of 3)
Figure 5-2 A Binding Price Floor
A price floor is the

minimum permissible
price that can be
charged for a particular
good or service.
A binding price floor
leads to excess supply.
Impact of Price Floors (2 of 3)
• A minimum wage is an example of a price floor in the labour market.

• In a competitive labour market, a binding minimum wage reduces the
level of employment and increases the quantity of labour services
employed.
• Unemployment increases.
Impact of Price Floors (3 of 3)
• The owners of firms are made worse off since they are now required
to pay a higher wage than before the minimum age was imposed.
• Some workers gain because they keep their jobs and they earn a
higher wage rate.
• Other workers lose because they lose their jobs as a result of the
wage increase.
2. Price Ceilings (1 of 2)
• Free markets with flexible prices eliminate excess demand by allowing

prices to rise.
• A price ceiling is the maximum price at which certain goods and services
may be legally exchanged.
• With a binding price ceiling some other method of allocation must be
adopted.
• First-come, first-served results in buyers waiting hours to get into the store,
only to find that supplies are exhausted before they are served.
• A binding price ceiling usually gives rise to a black market.
Price Ceiling
Figure 5-3 A Price Ceiling and Black-Market Pricing
A black market is a
situation in which
products are sold at
prices that violate a legal
price control.
Profit can be made by
buying at the controlled
price and selling at the
(illegal) black-market
price.
Price Ceilings (2 of 2)
Three common goals that governments have when imposing price ceilings
are:
• To restrict production
• To keep specific prices down
• To satisfy notions of equity in the consumption of a product that is
temporarily in short supply
To the extent that binding price ceilings give rise to a black market, it is likely that the
government’s objectives motivating the imposition of the price ceiling will be dissatisfied.
Price Ceiling and Price Floor
https://www.youtube.com/watch?v=RBGHmCI
Br9M
5.2 Rent Controls: A Case Study of Price Ceilings
The Predicted Effects of Rent Controls

Binding rent controls are a specific form of price ceiling, which have the
following effects:
• A shortage of rental housing because quantity demanded exceeds
quantity supplied
• Alternative allocation schemes
• Black markets will appear
Who Gains and Who Loses?
• Existing tenants in rent-controlled accommodations are the principal

gainers from a policy of rent control.
• Landlords lose because they do not receive the rate of return they
expected on their investments.
• Potential future tenants also suffer because the rental housing they
will require will not exist in the future.
Policy Alternatives
• Subsidy: Housing shortages can be reduced if the government, at
taxpayers’ expense either subsidizes housing production or produces
public housing directly.
• Assistance to households: The government can make housing more
affordable to lower-income households by providing income assistance
directly to these households.
• Whatever policy is adopted has a resource cost.
5.3 An Introduction to Market Efficiency
• Controlled price generates benefits for some individuals and costs for
others.
• Minimum Wages: Does a policy of legislated minimum wages make
society as a whole better off because it helps workers more than it
harms firms?
• Rent Control: Does a policy of rent controls make society as a whole
better off because it helps tenants more than it harms landlords?
• Economists use the concept of market efficiency to address such
questions.
Demand as “Value” and Supply as “Cost” (1 of
2)
The market demand curve for any product shows, for each possible
price, how much of that product consumers want to purchase.
We can turn it around by starting with any given quantity and asking
about the price.
The demand curve tells us the highest price that consumers are willing
to pay for a given unit.
For each unit of a product, the price on the market demand curve
shows the value to consumers from consuming that unit.
Demand as “Value” and Supply as “Cost” (2 of
2)
The market supply curve for any product shows how much producers
want to sell at each possible price.
We can turn it around by starting with any given quantity and asking
about the price.
The supply curve tells us the lowest price that producers are willing to
accept for a given unit.
For each unit of a product, the price on the market curve supply shows
the lowest acceptable price to firms for selling that unit. This lowest
acceptable price reflects the additional cost to firms from producing
that unit.
Reinterpreting the Demand Curve
Figure 5-5(i) Reinterpreting the Demand Curve for Pizza
For each pizza, the price on

the demand curve shows the
value consumers receive
from consuming that pizza.
Reinterpreting the Supply Curve
Figure 5-5(ii) Reinterpreting the Supply Curve for Pizza
For each pizza, the price

on the supply curve
shows the additional
cost to firms of
producing that pizza.
Economic Surplus and Market Efficiency (1 of
2)
Figure 5-6 Economic Surplus in the Pizza Market

Economic Surplus and Market Efficiency (2
of 2)
Economic surplus—the
area below the demand
curve and above the
supply curve—is
maximized at the free-
market equilibrium
quantity. Total economic
surplus is maximized.
Figure 5-7 Market Inefficiency with Price
Controls (1 of 2)
Production falls from Q0 to Q1.
With a free market, each unit of
output from Q0 to Q1 generates
economic surplus.
The purple area shows the
deadweight loss, which is the
overall loss of economic surplus
to society of the binding price
floor.
Figure 5-7 Market Inefficiency with Price
Controls (2 of 2)
Production falls from Q0 to
Q2.
With a free market, each unit
of output from Q0 to Q2
generates economic surplus.
The purple area shows the
deadweight loss, which is the
overall loss of economic
surplus to society of the
binding price floor.
One Final Application: Output Quotas
Figure 5-8 The Inefficiency of Output Quotas
An output quota
restricts output to Q1.
The shaded area
shows the reduction
in overall economic
surplus—the
deadweight loss—
created by the quota
system.
A Cautionary Word
Why does the government intervene in otherwise free markets when the
outcome is inefficient?
The answer in many situations is that the government policy is motivated by
the desire to help a specific group of people.
The overall costs are deemed to be a worthwhile price to pay to achieve the
desired effect.
Policymakers are making normative judgements.
The job of the economist is undertake positive analysis, emphasizing the
actual effects of the policy rather than what might be desirable.
Class Activity
The demand and supply schedules are shown in the following table.
1. Graph the demand and supply curves. What is the free -market equilibrium in
this market?
2. What is the total economic surplus in this market. What area in your diagram
represents this economic surplus?
3. Suppose the local government enforces a price ceiling $1.5. Show in your
diagram the effect on price and quantity exchanged.
Learning Activity 4
Not surprisingly, governments often debate how best to deal

with the issue of high rent. Who bear the heaviest cost when
rents are kept artificially low by each of the following means?
1. Legislated rent controls
2. A subsidy to tenants equal to some fraction of their rent
3. The provision of pubic housing which is made available at
below market rents
Ragan: Economics
Chapter 6
Consumer Behaviour

Course Schedule



After studying this chapter, you will be able to
6.1 Marginal Utility and Consumer 1. describe the difference between marginal and
Choice total utility.
2. explain how utility-maximizing consumers adjust
their expenditure until the marginal utility per
dollar spent is equalized across products.
6.2 Income and Substitution Effects of 3. understand how the slope of any demand curve is
Price Changes determined by the income and substitution effects
of price changes.
6.3 Consumer Surplus 4. see that consumer surplus is the “bargain” the
consumer gets by paying less for the product than
the maximum price he or she is willing to pay.
5. explain the “paradox of value.”
6.1 Marginal Utility and Consumer Choice (1 of
2)
Utility is the satisfaction that a consumer receives from consuming

some good or service.
Total utility is the consumer’s total satisfaction resulting from the

consumption of a given product.
Marginal utility is the additional satisfaction obtained from consuming

one additional unit of a product.
6.1 Marginal Utility and Consumer Choice (2 of
2)
Law of Diminishing Marginal Utility

Definition: The utility that any consumer derives from successive units of a
particular product consumed over some period of time diminishes as total
consumption of the product increases (holding constant the consumption of
all other products).
Example: Think about your total utility from water. Initially, the utility you
receive is high. As you use more and more water, your marginal utility from
each additional glass decreases.
Utility Schedules & Graphs
Figure 6-1 Total and Marginal Utility
Bottles Total Marginal
Utility Utility
0 0
1 30 30
2 50 20
3 65 15
4 75 10
5 83 8
6 89 6
7 93 4
8 96 3
9 98 2
10 99 1
Utility Maximizing Choice
1. Total Utility Approach

2. Marginal Utility per Dollar Approach
1. Total Utility Approach
Consumers want to get the most utility possible from their limited resources.
They make the choice that maximizes utility. Let’s find Lisa’s utility-maximizing
choice. Suppose her total income is $40 and she wants 2
products, movies
& Soda, the price
of which is $8
& $ 4 respectively.
Source: Microeconomics, 11th Edition, 2014, Michael Parkin, Pearson Higher Education, USA
I
Illustration of Table 8.2

Find the Just-Affordable Combinations: Table 8.2 shows the combinations of
movies and soda that Lisa can afford and that exhaust her $40 income.
Find the Total Utility for Each Just-Affordable Combination: Table 8.2 shows the
total utility that Lisa gets from the just-affordable quantities of movies and soda.
In row C of the table, Lisa sees 2 movies and buys 6 cases of soda. She gets 90
units of utility from movies and 225 units of utility from soda. Her total utility
from movies and soda is 315 units. This combination of movies and soda
maximizes Lisa’s total utility. That is, given the prices of movies and soda, Lisa’s
best choice when she has $40 to spend is to see 2 movies and buy 6 cases of
soda.
Consumer Equilibrium: We’ve just described Lisa’s consumer equilibrium. A
consumer equilibrium is a situation in which a consumer has allocated all of his or
her available income in the way that maximizes his or her total utility, given the
prices of goods and services. Lisa’s consumer equilibrium is 2 movies and 6 cases
of soda.
I
Maximizing Utility
2. Marginal Utility per Dollar Approach
• Marginal utility per dollar is the marginal utility from a good that results
from spending one more dollar on it.
• To calculate the marginal utility per dollar for movies (or soda), we must
divide marginal utility from the good by its price.
• If the marginal utility from Movies (MUM) and the price of a Movie (PM).
Then the marginal utility per dollar from Movies is
MUM/PM.
Copyright © 2014 Pearson Canada Inc. 169

Chapter 6, Slide
Maximizing Utility
If the marginal utility from Soda (MUS) and the price of a case of Soda (PS).
Then the marginal utility per dollar from Soda is
MUS/PS
Utility-Maximizing Rule
Spend all the available income

Equalize the marginal utility per dollar for all goods
MUM/PM = MU /P S S
MUM/MUS = PM/PS
• Source: Microeconomics, 11th Edition, 2014, Michael Parkin, Pearson Higher Education, USA
•I
170
Chapter 6, Slide
Maximizing Utility
Let’s apply the basic idea of Marginal Utility per Dollar
The table in Fig. 8.3 shows Marginal Utility per Dollar for Lisa.
171
The Consumer’s Demand Curve (1 of 2)
What happens when there is a change in the product’s price?
If the price of Move (M) rises, then at the previous utility-maximizing
point:
MU / P < MU / P
M M S S
To restore the equality, the consumer reduces consumption of

Move.
6.2 Income and Substitution Effects of Price Changes
When price of a product change, It has two effects

The Substitution Effect
The substitution effect is the change in the quantity of a product
demanded resulting from a change in its relative price (holding real
income constant).
The substitution effect increases the quantity demanded of a product

whose price has fallen and reduces the quantity demanded of a product
whose price has risen.
The Income Effect
The income effect is the change in the quantity of a product

demanded resulting from a change in real income (holding relative
prices constant).
The income effect leads consumers to buy more of a product whose

price has fallen, provided that the product is a normal good.
The size of the income effect depends on the amount of income spent
on the product whose price changes and on the amount by which the
price changes.
The Slope of the Demand Curve (1 of 2)
• The substitution effect leads consumers to increase their demand for

all normal goods whose prices fall.
• The income effect leads consumers to buy more of all normal goods
whose prices fall.
• Because of the combined operation of the income and substitution

effects, the demand curve for any normal good will be negatively
sloped.
• A fall in price will increase the quantity demanded.

The Slope of the Demand Curve (2 of 2)
A good is Giffen good when its demand increased as its price increases.
Example: If the price of an essential food staple, such as rice, rises it may mean
that consumers have less money to buy more expensive foods, so they will
actually be forced to buy more rice.
Products with a positively sloped demand curves are Giffen goods.
Giffen goods have two key characteristics:
1. The good must be an inferior good—a reduction in real income leads

households to purchase more of that good
2. The good must take a large proportion of total household expenditure and
therefore have a large income effect
Figure 6-3 Income and Substitution Effects of a Price Change
Conspicuous Consumption Goods
Some products are consumed not for their intrinsic qualities but because
they have “snob appeal”.
Does this behaviour violate our theory of utility maximization?
• Snobs would still buy more at a lower price as long as other people
thought they had paid a high price.
• If such consumption exists, it is unlikely the market demand curve is
positively sloped. Lower-income consumers would buy inexpensive
diamonds or BMWs. Their behavior would likely offset the behaviour of
the relatively few higher-income “snobs”.
6.3 Consumer Surplus
Let the price of milk is $1 per liter
Litres of Milk Amount Moira is Willing to Moira’s Consumer Surplus If She
Moira Consumes/Week Pay/Litre Actually Pays $1/Litre
First $ 6.00 $ 5.00
Second 3.00 2.00
Third 2.00 1.00
Fourth 1.60 0.60
Fifth 1.20 0.20
Sixth 1.00 0.00
Seventh 0.80 --
Eighth 0.60 --
Ninth 0.50 --
Tenth 0.40 --
Figure 6-4 Consumer Surplus on Milk Consumption
Consumer surplus on
each unit consumed is
the difference between
the market price and the
maximum price that the
consumer is willing to
pay to obtain that unit.
Consumer Surplus (1 of 2)
• Consumer surplus is the difference between the total value that
consumers place on all units consumed of a product and the payment
that they actually make to purchase that amount of the product.
• The area under the demand curve shows the total value a consumer
places on a good.
• The market demand curve shows the valuation that consumers place on
each unit of the product.
• For any given quantity, the area under the demand curve and above the
price line shows the consumer surplus received from consuming those
units.
Consumer Surplus (2 of 2)
Figure 6-5 Consumer Surplus for the
Total consumer
Market
surplus is the area
under the demand
curve and above the
price line.
The area under the
curve shows the total
valuation that
consumers place on
all units consumed.
The Paradox of Value (1 of 3)
Early economists and philosophers encountered the paradox of value.
Why is it that water, which is essential to life, has a low price, while
diamonds, which are not essential to life, have a high price?
Early economists thought the price or “value” of a good depended only on
the demand by consumers.
This view ignores two important aspects of the determination of price.
1. Supply plays just as important a role as demand in determining price.
2. Consumers purchase units of a good until the marginal value of the
last unit purchased is equal to its market price.
So water has a plentiful supply, and hence a low price; diamonds have a
relatively scarce supply and hence a high price.
• Since water has a low price, consumers buy water to the point where
the marginal value placed on the last unit consumed is very low, and the
total value is high.
• Since diamonds have a high price, consumer buy diamonds to the point
where the marginal value placed on the last unit consumed is very high,
and the total value is low.
• So water has a low price, a low marginal value, and a high total value.
• Diamonds have a high price, a high marginal value, and a low total value.
Figure 6-6 Resolving the Paradox of Value
Water has a high total value and a low price, which leads to a large consumer
surplus. Diamonds have a low total value and a high price, which leads to a small
consumer surplus.
Assignment 2
Exercise
Consider the following common scenario.

An economist is attending a conference in an
unfamiliar city. She is in the mood for a high-
quality dinner and wanders through the center of
the city looking for a restaurant. After narrowing
her search to two establishments located on the
same block, she ultimately selects the restaurant
with the higher prices. What might account for
this behaviour?
LA5
Suppose there is a I0 percent increase in the prices of

the following products. Keeping in mind how large a
fraction of a typical consumer's budget these items are,
explain whether you think the income effect in each
case would be small or large, and why.
• a. salt b. jeans
• c. canned vegetables d. gasoline
• e. rental apartments g. luxury cars
• h. cell phones I. vacations to Cuba
• j. fee for one day car rentals
Exercise
Tim buys 2 pizzas and sees 1 movie a week when he has $16 to spend. The
price of a movie ticket is $8, and the price of a pizza is $4. Draw Tim’s budget
line. If the price of a movie ticket falls to $4, describe how Tim’s consumption
possibilities change.
Important Websites for more learning
• Paradox of value
• https://www.youtube.com/watch?v=T4sDB5TdWIM
• https://www.youtube.com/watch?v=rCrMapJ9gyA
Ragan: Economics
Chapter 7
Producers in the
Short Run

Course Schedule
Chapter 5: Markets in Action/Price Controls and Market Efficiency
Chapter Outline/Learning
Objectives
After studying this chapter, you will be able to
7.1 What Are Firms? 1. identify the various forms of business organization and
discuss the different ways that firms can be financed.
7.2 Production, Costs, 2. distinguish between accounting profits and economic

and Profits profits.
7.3 Production in 3. understand the relationships among total product,

the Short Run average product, and marginal product; and the law of
diminishing marginal returns.
7.4 Production in 4. explain the difference between fixed and variable costs,
the Long Run and the relationships among total costs, average costs,
and marginal costs.

Chapter 7, Slide
7.1 What
• Organizations Are Firms?
of Firms (six basic types)
1.Single proprietorships: one owner- manager
2.Ordinary partnerships: two or more joint owners
3.Limited partnerships: two types of partners
a. General partner take part in the running of the
business and are liable for the firm's debts.
b. Limited partners take no part in the running of the
business, and their liability is limited to the amount
they actually invest in the enterprise.
195
Chapter 7, Slide
7.1
• 4. Corporations:What Are owners
Own Identity, Firms? are not doing anything by themselves,
having Board of Director, shares are not traded in stock exchange.
• 5. State-owned corporations: State own Business, Board of Director, In
Canada, state-owned enterprises are called Crown Corporations.
• Examples: Canadian Broadcasting Corporation, VIA Rail , Canada Post, and
the Bank of Canada.
• 6. Non-profit organizations: established with the exploit objective of
providing goods or services co customers but having any profits that are
generated remain with the organization and not claimed by individuals.

Chapter 7, Slide
Organizations
•MNEs: Firms thatofhave
Firms
locations in more than one
country are often called multinational enterprises
(MNEs).
For a more detailed discussion of multinational enterprises, and

MyEconLa especially their role in determining flows of foreign investment,
look for Multinational Enterprises and Foreign Direct Investment
b in the Additional Topics section of this book's MyEconLab.
www.myeconlab.com

Chapter 7, Slide
•Financial Capital: The money a firm raises for caring business is called
Financing
financial capital. of Firms
•Real Capital: The firm's physical assets, such as factories, machinery, offices,
vehicles, and stocks of materials and finished goods.
•Basic Types of Financial Capital : Equity and Debt
a. Equity: Equity is the funds provided by owners of firm.
•A corporation acquires funds from its owners in return for stocks, shares, or
equities. These are basically ownership certificates. Profits are paid out to
shareholders are called dividends.

Chapter 7, Slide
stocks, shares, or equities
© 2014 Pearson Education Canada Inc. 199

a. Debt: is the funds borrowed from creditors (individuals or institutions)
Typesof the
outside of firm.
Financial Capital
•The firm 's creditors are not owners; they have lend money in return for some
form of loan agreement.
• Commercial banks
• Financial Institutions
• Non Bank Lender
• Bonds

Chapter 7, Slide
Bond

• Goals ofusually
Economists Firmsmake two key assumptions about firms:
1. Firms are assumed to be profit-maximizers.
2. Each firm is assumed to be a single, consistent, decision-making unit.
• Based on these assumptions, economists can predict the behavior of
firms in various situations.
• But are firms interested in more than just profits?

Chapter 7, Slide
Production, Costs and Profits
The Production
• Firms use four types of inputs for production:
1.Intermediate products
2.Inputs provided directly by nature
3.Inputs provided directly by people, such as labour services
4.Inputs provided by the services of physical capital (machines)

•TheProduction Function
production function is a functional relation showing the maximum output
that can be produced by any given combination of inputs.
•The production function describes the technological relationship between the
inputs that a firm uses and the output that it produces.
•In terms of functional notation:
•Q = f(L,K)
•Production is a flow: it is a number of units per period of time.
Costs and Profits
• We assume that the firm’s goal is to maximize profit.
Profit = Total revenue – Total cost
the amount a the market

firm receives value of the
from the sale inputs a firm
of its output uses in
production
Costs as Opportunity Costs
A firm’s cost of production includes all the opportunity costs of making its
output of goods and services. And this is true whether the costs are implicit
or explicit both are important for firms’ decisions.
• Explicit Costs and Implicit Costs
A firm’s cost of production include both explicit costs and implicit costs.
• Explicit costs
Costs that require an outlay of money.
For example, paying wages to workers.
• Implicit costs
Costs that Do not require an outlay of Money.
For example, the opportunity cost of the owner’s time.
Explicit vs. Implicit Costs: An Example
You need $100,000 to start your business. The interest rate is 5%.
• Case 1: Borrow $100,000.
• Explicit Cost = $100,000 x 5% = $5000 (interest on loan)
• Case 2: Use $40,000 of your savings & borrow other $60,000.
• Explicit Cost = $60,000 x 5% = $3,000 (interest on loan)
• implicit cost = $40,000 x 5% = $2,000 (foregone interest you
could have earned on your $40,000).
In both cases, total (exp + imp) costs are $5000.

Economic Profit versus Accounting Profit
• Accountants measure the Accounting Profit (AP) as the firm’s total
revenue minus only the firm’s explicit costs.
AP = Total Revenue – Explicit Costs
• Economists measure a firm’s Economic Profit (EP) as total revenue minus

total cost, including both explicit and implicit costs.
EP = Total Revenue – Total Costs
(where total cost = explicit costs + implicit costs)
• When total revenue exceeds both explicit and implicit costs, the firm
earns economic profit.
• Economic profit is smaller than accounting profit.
Economists versus Accountants
How an Economist How an Accountant
Views a Firm Views a Firm
Economic
profit
Accounting
profit
Implicit
Revenue costs Revenue
Total
opportunity
costs
Explicit Explicit
costs costs
Table 7-1 Accounting Versus Economic Profit for Ruth’s Gourmet Soup Company
(1 of 2)
Total Revenues ($) Blank 2000

Explicit Costs ($) Blank Blank
Wages and Salaries 500 Blank
Intermediate Inputs 400 Blank
Rent 80 Blank
Interest on Loan 100 Blank
Depreciation 80 Blank
Total Explicit Costs 1160 Blank
Accounting Profit Blank 840
Implicit Costs ($) Blank Blank
Opportunity Cost of Owner’s Time 160 Blank
Opportunity Cost of Owner’s Blank Blank
$1500 Capital
Table 7-1 Accounting Versus Economic Profit for Ruth’s Gourmet Soup
Company (2 of 2)
(a) risk-free return of 4% 60 Blank

(b) risk premium of 3% 45 Blank
Total Implicit Costs 265 Blank
Economic Profit Blank 575
•Economic profits are less than accounting profits because of implicit costs.
The table shows a simplified version of a real profit-and-loss statement.
Accounting profits are computed as revenues minus explicit costs (including
depreciation), and in the table are equal to $840 for the period being
examined. When the correct opportunity cost of the owner’s time (in excess
of what is recorded in wages and salaries) and capital are recognized as
implicit costs, the firm appears less profitable. Economic profits are still
positive but equal only $575.
Profit-Maximizing Output
•When we talk about a firm’s profit, we will always mean
economic profit.
•A firm’s economic profit is the difference between the
total revenue (TR) each firm derives from the sale of its
output and the total cost (TC) of producing that output:
  TR - TC
Time
•Short Horizons
Run: The short run is afor
timeDecision Making
period in which (1 of
the quantity of some
2)
inputs, called fixed factors, cannot be changed.
•Fixed factors: A fixed factor is usually an element of capital but it might be
land, the services of management, or even the supply of skilled labour.
•Variable factors: Inputs that are not fixed and can be varied in the short run
are called variable factors.
•The short run does not correspond to a specific length of time.
•LongTime
Run: TheHorizons forlength
long run is the Decision Making
of time over which all of(2the
of firm’s
2)
factors of production can be varied, but its technology is fixed.
•The long run, like the short run, does not correspond to a specific length of
time.
•Very long run: the very long run is the length of time over which all the firm's
factors of production and its technology can be varied.
7.3 Average,
•Total, Production
andin the Short
Marginal Run
Products
•Total product (TP) is the total amount produced during a given period of time.
•Average product (AP) is the total product divided by the number of units of
the variable factor used to produce it.
•If we let the number of units of labour be denoted by L, then
•AP = TP / L
Figure 7-1 Total, Average, and Marginal Products in the Short Run
•Marginal product is the change in total output that

results from using one more unit of a variable factor.
•The marginal product (MP) of labour is given by:
ΔTP
MP 
ΔL
Figure 7-1 Total, Average, and Marginal Products in the Short Run
Thean Average-Marginal
• With Relationship
additional worker’s output raises average product, MP exceeds AP.
• When an additional worker’s output reduces average product, MP is less

than AP.
•In other words
• the AP curve slopes upward when the MP curve is above it and the AP
curve slopes downward when the MP curve is below it
•It follows that the MP curve intersects the AP curve at its maximum point.
•The law of diminishing returns states that if increasing amounts of a
Diminishing
variable Marginal
factor are applied Product
to a given quantity of a fixed factor (holding the
level of technology constant), eventually a situation will be reached in
which the marginal product of the variable factor declines.
•To increase output in the short run, more and more of the variable factor
is combined with a given amount of the fixed factor.
•So each successive unit of the variable factor has less and less of the fixed
factor to work with.
•And eventually equal increases in work effort begin to add less and less
to total output.
7.4 Costs
•Defining in the Short
Short-Run CostsRun
•TheDefining Short-Run
total cost of producing Costs
any given level of (1 of 3) can be divided into total
output
fixed cost and total variable cost.
• Total fixed cost is the cost of the fixed factor(s). It does not vary with the
level of output.
• Total variable cost is the cost of the variable factors. It varies directly with
the level of output.
Defining
•Average total costShort-Run Costs
is the total cost of (2 of
producing any3)given number of units of
output divided by that number of units.
•Average fixed cost is total fixed cost divided by the number of units of output.
Average fixed cost declines continually as output increases..
•Average variable cost is total variable cost divided by the number of units of
output.
Defining Short-Run Costs (3 of 3)
•Marginal cost (MC) is the increase in total cost resulting from
increasing output by one unit.
ΔTC
MC 
ΔQ
•Marginal costs are always marginal variable costs because fixed

costs do not change as output varies.
225
•Figure 7-2 Total, Average, and
Marginal Cost Curves
•In Short-Run Cost
the top graph, noteCurves (1 of 2)
that TFC does not

change with output.
•In the bottom graph,
note that the MC curve
intersects the ATC and
AVC curves at their
minimums.
•The ATC curve is derived geometrically by vertically adding the AFC and AFC curves.
Short-Run Cost Curves
•The result is that the ATC curve declines initially(2asofoutput
minimum, and then rises as output increases further.
2) increases, reaches a
•The ATC curve is

•“U-shaped”.
Capacity
• The of that
level of output a firm
corresponds to the minimum short-run average
total cost is the capacity of the firm.
• Capacity is the largest output that can be produced without encountering
rising average costs per unit.
• A firm that is producing at an output less than the point of minimum
average total cost is said to have excess capacity.
Shifts
•Figure inIncrease
7-3 An Short-Run Cost
in Variable Curves
Factor Prices
•An increase in the price of a
variable factor shifts the firm’s
ATC and MC curves upward.
•An increase in the price of a
fixed factor increases the
firm’s total fixed costs, but its
variable costs are unchanged.
•The ATC curve shifts upward
but the MC curve does not
change.
Activity 5
You might be able to relate to this unit’s discussion in the sense of

seeking out a new, more profitable future for yourselves and your
families.

A carpenter quits his job at a furniture factory to open his own
cabinetmaking business. In his first two years of operation, his sales
average $100 000 and his operating costs for wood, workshop and
tool rental, utilities, and miscellaneous expenses average $70 000.
Now his old job at the furniture factory is again available. Should
he take it or remain in business for himself? How would you make
this decision? (Hint: Of course it will depend on how much the job
will offer him as salary. Are there any other considerations?)

Chapter 8, Slide
• https://www.bing.com/videos/search?q=production+in+short+run&&view=d
Videos - Short Run Production
etail&mid=41F4BB6F3B3CA9434BCF41F4BB6F3B3CA9434BCF&&FORM=VRD
GAR
• Long run Production
• https://www.bing.com/videos/search?q=production+in+long+run&&view=de
tail&mid=72360BBD4899BF370CB272360BBD4899BF370CB2&&FORM=VRDG
AR
• Difference
• https://www.bing.com/videos/search?q=difference+between+shortrun+and+
long+run+production&&view=detail&mid=B62C6228E56CD8A47C3BB62C622
8E56CD8A47C3B&&FORM=VRDGAR

Ragan: Economics
Chapter 8
Producers in the Long Run

8.1 The Long Run: No Fixed Factors 1. explain why profit maximization requires firms to
equate marginal product per dollar spent for all
factors.
2. explain why profit-maximizing firms substitute
away from factors whose prices have risen and
toward factors whose prices have fallen.
3. understand the relationship between short-run
and long-run cost curves.
8.2 The Very Long Run: Changes in 4. discuss the importance of technological change
Technology and why firms are motivated to innovate.
8.1 The Long Run: No Fixed Factors (1 of 2)
• In the short run, at least one factor is fixed.
• In the long run, all inputs are variable (except technology).
• In the very long run, all inputs are variable including technology).
8.1 The Long Run: No Fixed Factors (1 of 2)
• Profit-maximizing choices: In the long run, there are numerous ways to produce
any given output.
a. Technical efficiency occurs when a given number of inputs are combined
in such a way as to maximize the level of output.
b. Cost minimization: The firm uses the technically efficient option that has
the lowest cost.
• To maximize profit, the firm chooses the lowest cost combination of labour and
capital.
• If it is possible to substitute one factor for another to keep output constant
while reducing total cost
Profit Maximization and Cost Minimization (2
of 4)
Using K to represent capital and L to represent labour, and pL and pK to

represent the prices per unit of the two factors, the necessary condition for
cost minimization is:
MPK MPL MPK pK

 or 
pK pL MPL pL
of 4)
Whenever the ratio of the marginal product of each factor to its price
is not equal for all factors, there are possibilities for factor substitutions
that will reduce costs (for a given level of output).
Profit-maximizing firms react to changes in factor prices by changing
their methods of production.
of 4)
Methods of production change when the relative prices of factors

change.
Relatively more of the cheaper factor and relatively less of the more
expensive factor will be used.
The principle of substitution is the principle that methods of
production will change if relative prices of inputs change, with
relatively more of the cheaper input and relatively less of the more
expensive input being used.
Long-Run Cost Curves (1 of 2)
When all factors of production can be varied, there exists a least-cost

method of producing any given level of output.
If this cost is expressed in terms of dollars per unit of output, we
obtain the long-run average cost of producing each level of output.
The long-run average cost (LRAC) curve is the curve showing the
lowest possible cost of producing each level of output when all inputs
can be varied.
Long-Run Cost Curves (2 of 2)
The LRAC is the boundary between cost levels that are attainable, with
known technology and given factor prices, and those that are
unattainable.
Since all costs are variable in the long run, we do not need to
distinguish between AVC, AFC, and ATC, as we did in the short run.
In the long run, there is only one LRAC for any given set of input prices.
Figure 8-1 A “Saucer-Shaped” Long-Run
Average Cost Curve (1 of 11)
Over the range of output from zero to QM long-run average cost is falling.
The firm is said to have economies of scale.
Economies of scale is a reduction of long-run average costs resulting from

an expansion in the scale of a firm’s operations so that more of all inputs is
being used.
Over the range of output from zero to QM the firm is enjoying increasing
returns.
Increasing returns is a situation in which output increases more than in

proportion to inputs as the scale of a firm’s production increases.
At QM the firm is at its minimum efficient scale.

The minimum efficient scale is the smallest output at which LRAC

reaches its minimum.
All available economies of scale have been realized at this point.
At QM the firm experiences constant returns.

Constant returns is a situation in which the output increases in proportion

to inputs as the scale of production is increased.
Over the range of output greater than QM the firm is experiencing

decreasing returns.
Decreasing returns is a situation in which output increases less than in

proportion to inputs as the scale of a firm’s production increases.
Decreasing returns imply that the firm suffers some diseconomies of scale.
Figure 8-3 The Relationship Between the
LRAC and SRATC Curves (1 of 3)
The LRAC curve shows the lowest cost of producing any output when all
factors are variable.
Each SRATC curve shows the lowest cost of producing any output when
one or more factors are fixed.
No short-run cost curve can fall below the long-run cost curve because the
LRAC curve represents the lowest attainable cost for each possible output.
Each SRATC curve is tangent to the LRAC curve at the level of output for
which the quantity of the fixed factor is optimal, and lies above it for all
other levels of output.
8.2 The Very Long Run: Changes in
Technology (1 of 2)
• In the long run, firms are producing on the LRAC curves.
• In the very long run, there are changes in the available techniques
and resources.
• These changes cause shifts in the LRAC curve.
8.2 The Very Long Run: Changes in
Technology (2 of 2)
• Technological change in any change in the available techniques of
production.
• To measure the extent of technological change, economists use the
notion of productivity.
• Productivity is the output produced per unit of some input.
• Two widely used measures of productivity are:
• output per worker
• output per hour of work.
Technological Change
The inventing and innovating of new products and processes is done by

firms in search of profits.
So we say that technological change is endogenous to the economic
system rather than something that occurs for unknown reasons.
There are three aspects of technological change:
1. New techniques
2. Improved inputs
3. New products
Firms’ Choices in the Very Long Run
When price of an input increased:

• firms may either substitute away or
• innovate away from the input
• or do both over different time horizons.
Invention and innovation are subject to great uncertainties that are
difficult to estimate in advance.
Activity
Use the principle of substitution to predict the effect in each of the following
situations.
a) During the past 30 years, technological advances in the computer industry
have led to dramatic reductions in the prices of personal and business
computers. At the same time, real wages have increased slowly.
b) The ratio of land costs to building costs is much higher in big cities than in
small cities.
c) A new collective agreement results in a significant increase in wages for

pulp and paper workers.
Ragan: Economics
Chapter 9
Competitive Markets

Course Schedule
9.1 Market Structure and Firm Behaviour 1. explain the difference between competitive
behaviour and a competitive market.
9.2 The Theory of Perfect Competition 2. list the four key assumptions of the theory of
perfect competition.
9.3 Short-Run Decisions 3. derive a competitive firm’s supply curve.
4. determine whether competitive firms are
making profits or losses in the short run.
9.4 Long-Run Decisions 5. explain the role played by profits, entry, and
exit in determining a competitive industry’s
long-run equilibrium.
1. Large no. of buyers &
sellers
Market Structure 1. Many sellers
2. One price/no Market (Types of Markets) 2. Differentiated product
power 3. Free entry and exit
3. Homogenous
/standardize product
4. Free entry and exit
1. One seller
1. Few sellers
2. Firm fix price/market
2. One price or different
power
3. differentiated product
3. Unique product
4. entry and exit difficult
4. No entry and exit
Questions / Activities
What is Market Structure?
What is perfect competition?
What are the characteristics of Perfect Competition?
1……………..
2………………
3……………
4………………
5……………………..
What is Market Power?
Questions / Activities
What is Monopoly?
What is imperfect competition?
What are the characteristics of Monopoly?
1……………..
2………………
3……………
4………………
5……………………..
The Theory of Perfect Competition
The Assumptions of Perfect Competition
• Very large number of buyers and sellers
• Similar or standardized products (homogeneous

product)
• Buyers and sellers are price takers
• No Barriers (Free entry and exit)
• Perfect elastic demand curve

The Demand Curve for a Perfectly Competitive Firm (1 of 2)
Figure 9-1 The Demand Curve for a Competitive Industry and for
One Firm in the Industry
Each firm in a perfectly competitive market faces a horizontal

demand curve—even though the industry demand curve is
downward sloping.
The Demand Curve for a Perfectly
Competitive Firm (2 of 2)
Although the firm faces a perfectly elastic demand, the firm cannot sell
an infinite amount at the going price.
The horizontal demand curve indicates, rather, that any realistic
variations in that firm’s production will leave the price unchanged
because the effect on total industry output will be negligible.
Total, Average, and Marginal Revenue (1 of 2)
Total revenue: is the total amount received by the firm from the sale of a
product.
Total revenue (TR):
TR = p x Q
Average revenue: is the amount of revenue per unit sold.
Average revenue (AR):
AR = (pTR
x Q)/Q
AR =
AR Q
=P
Total, Average, and Marginal Revenue (2 of 2)
Marginal revenue is the change in a firm’s total revenue resulting from

a change in its sales by one unit.
Marginal revenue (MR):
MR =  TR/ Q
MR = P
For a competitive price-taking firm, the market price is the firm’s
marginal (and average) revenue.
Revenues for a Price-Taking Firm
Revenue Concepts
Price Output TR = p AR = MR =
p Q ×Q TR/Q ΔTR/ΔQ
$3 10 $30 $3 $3
3 11 33 3 3
3 12 36 3 3
3 13 39 3 Blank
Short-Run Decisions
The firm’s objective is to maximize profits:
Profits = TR – TC
• If total revenues are not enough to cover total costs, economic profits
will be negative, and we say the firm is making economic losses.
• If the firm is making losses, should the firm produce any output at all?
• If it makes sense for the firm to remain in business and produce some
output, what level of output should it produce?
Should the Firm Produce at All? (1 of 2)
If the firm produces nothing, it will have an operating loss that is equal to
its fixed costs.
If the firm decides to produce, it will add the variable cost of production
to its costs.
Since it must pay its fixed costs in any event, it will be worthwhile for the
firm to produce as long as it can find some level of output for which
revenue exceeds variable cost.
If revenue is less than its variable cost, the firm will lose more by
producing than by not producing at all.
Rule 1
• A firm should not produce at all if, for all levels of output, total revenue
is less than total variable cost.
TR < TVC
• Equivalently, the firm should not produce at all if, for all levels of output,
the market price is less than average variable cost. P < AVC
The shut-down price is the price that is equal to the minimum of a firm’s
average variable costs.
At prices below this, a profit-maximizing firm will produce no output.
Profit Maximization for a Competitive Firm
i. TC and TR
The market determines the

equilibrium price. The firm then
picks the quantity of the output
that maximizes its own profits.
When the firm is producing Q*,
it has no incentive to change its
output.
Profit Maximization for a Competitive Firm
ii. MR and MC
The profit maximizing level
of output is the point at
which price (marginal
revenue) equals marginal
cost.
When the firm is producing
Q*, it has no incentive to
change its output.
Short-Run Supply Curves
The Derivation of the Supply Curve for a Competitive Firm
A competitive firm’s supply curve is given by the portion of its

marginal cost curve that is above its average variable cost curve.
Short-Run Equilibrium in a Competitive Market
When an industry is in short-run equilibrium, quantity demanded

equals quantity supplied, and each firm is maximizing its profits given
the market price.
When the industry is in short-run equilibrium, a competitive firm may
be making losses, break even, or making profits.
Case 1: Zero Economic Profits
Figure 9-8(ii) Alternative Short-Run Profits of a Competitive Firm
The firm produces quantity Q2,

which is the quantity at which
marginal cost equals marginal
revenue, which equals price.
The firm is just covering its total
costs, p2 = ATC.
There is zero economic profit.
Case 2: Positive Economic Profits
Figure 9-8(iii) Alternative Short-Run Profits of a Competitive Firm

Since p3 > ATC, the firm makes
positive economic profits equal to
the blue area.
Case 3: Negative Economic Profits (Losses)
Figure 9-8(i) Alternative Short-Run Profits of a Competitive Firm

When p1 < ATC, the firm suffers
losses equal to the red shaded
area. But price exceeds AVC, so the
firm continues to produce.
Long-Run Decisions
Entry and Exit (three situations)

• If existing firms are making positive economic profits, new firms have
an incentive to enter the industry.
• If existing firms are making zero profits, there are no incentives for
new firms to enter, and no incentives for existing firms to exit.
• If existing firms are making economic losses, there is an incentive for
existing firms to exit the industry.
The Effect of New Entrants Attracted by
Positive Profits
1. Positive profits attract new
firms.
2. Entry leads to an increase in
supply. The market supply
curve shifts rightward and the
price falls.
3. Entry stops when all firms are
just covering their total costs.
An Exit-Inducing Price
The Effect of Exit Caused by Losses

Long-Run Equilibrium
The long-run industry equilibrium of a competitive industry occurs

when firms are earning zero profits.
The price in the industry is the break-even price.
The break-even price is the price at which a firm is just able to cover all
of its costs, including the opportunity cost of capital.
A Typical Competitive Firm When the
Industry Is in Long-Run Equilibrium
In long-run competitive
equilibrium, each firm is
operating at the minimum
point on its LRAC curve.
Changes in Technology
Consider a competitive industry in long-run equilibrium. Price is equal

to average total cost of the existing plants.
Now suppose that some technological development lowers the costs
of newly built plants.
Plants with new technology earn economic profits. Other new plants
enter the industry.
Expanding industry output drives the price down to equal short-run
average total cost of the new plants.
Plants with old technology may continue, but they will earn losses and
eventually exit.
Plants of Different Vintages in an Industry with
Competitive Technological Progress
Learning Activity 7
Assume that apples are produced in a perfectly competitive market.
Columbia’s Orchard is a typical firm that grows and sells apples. Currently,
Columbia earns zero economic profit, and the market price of apples is $10
per kg.
a) Draw a correctly labeled graph showing Columbia’s demand curve,
average total cost curve, and marginal cost curve, and show the profit-
maximizing quantity, labeled Qc.
b) Suppose an increase in the popularity of apple, the demand for apple
increases. How will the increase in the demand for apples affect
Columbia’s economic profit in the short run? Explain.
c) What will happen to Columbia’s economic profit in the long run? Explain.

Ragan: Economics: Fifteenth Canadian Edition

Uploaded by

Document Information

Original Title

Copyright

Available Formats

Share this document

Share or Embed Document

Sharing Options

Did you find this document useful?

Is this content inappropriate?

Copyright:

Available Formats

Ragan: Economics: Fifteenth Canadian Edition

Uploaded by

Copyright:

Available Formats

Ragan: Economics

Fifteenth Canadian Edition

Copyright © 2017 Pearson Canada Inc. 1-1

Copyright © 2017 Pearson Canada Inc. 1-2

Copyright © 2017 Pearson Canada Inc. 1-3

• Land: includes all natural endowments, such as arable land,

• Labour: includes all mental and physical human resources,

• Capital: includes all manufactured aids to production, such as

Copyright © 2017 Pearson Canada Inc. 1-5

Copyright © 2017 Pearson Canada Inc. 1-6

Copyright © 2017 Pearson Canada Inc. 1-7

The negatively sloped line indicates the boundary between

Points that lie outside

Your university degree does not include only the

Copyright © 2017 Pearson Canada Inc. 1-9

The PPB illustrates:

Macroeconomics: Study of the economy as a whole

Microeconomics: Study of the economic choices of

Copyright © 2017 Pearson Canada Inc. 1 - 12

Copyright © 2017 Pearson Canada Inc. 1 - 13

• An economy is operating inside its production possibilities

• Why are some resources idle?

• Should governments worry about idle resources?

• Is there some reason to believe that occasional idleness

Copyright © 2017 Pearson Canada Inc. 1 - 14

Figure 1-3 The Effect of Economic Growth on the PPB

Questions relating to the idleness of resources and the growth of

Copyright © 2017 Pearson Canada Inc. 1 - 16

The Nature of Market Economies

Copyright © 2017 Pearson Canada Inc. 1 - 17

Adam Smith (1723–1790)

Copyright © 2017 Pearson Canada Inc. 1 - 18

Copyright © 2017 Pearson Canada Inc. 1 - 19

Copyright © 2017 Pearson Canada Inc. 1 - 20

Copyright © 2017 Pearson Canada Inc. 1 - 21

Factor services flow from individuals through factor markets

Copyright © 2017 Pearson Canada Inc. 1 - 22

Planned System - Free Market System - Mixed Market System

Increasing Government Control

Communism Socialism Capitalism

Decreasing Social Services

Copyright © 2017 Pearson Canada Inc. 2 - 25

Normative statements depend on value judgements and cannot be

a. Prices rise when the government increases the

An index number is a measure of some variable, conventionally expressed

Absolute value in given period

Time-series data: Data collected in extended period of times.

Longitudinal or panel data: Contains observations on multiple

Another way to represent data is with a scatter diagram.

A scatter diagram is a graph showing two variables, one measured on the

Annual Consumption Reference

• When two variables move together, the variables are positively

Let X be the variable measured on the horizontal axis and Y be the

The slope of a straight line is calculated as  Y/ X.

Figure 2-6 Income and Consumption

A maximum occurs when a positive slope is followed by a negative slope,

Figure 2-8 Non-linear Pollution Reduction

Suppose the relationship between the

Demand, Supply, and Price

25 Nov – 1 Dec 8 Chapter 12: Economic Efficiency and Public Policy

02 Dec – 08 Dec 9 Chapter 13: How Factor Markets Work

15 Dec – 21 Dec 11 Final Exam (2.5 hours)

• Quantity demanded is the amount of a good that