MicroEconomics 5e by besanko braeutigam chapter 01

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Copyright (c)2014 John Wiley & Sons, Inc.

CHAPTER 1

Analyzing Economic Problems


Chapter One Overview

1.
1. Defining
DefiningMicroeconomics
Microeconomics
2.
2. Who
WhoShould
ShouldStudy
StudyMicroeconomics?
Microeconomics?

4.
4. The
TheTypes
TypesofofMicroeconomic
MicroeconomicAnalysis
Analysis

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3.
3. Microeconomic
MicroeconomicModeling
Modeling
•• Elements
ElementsofofModels
Models
•• Solving
Solvingthe
theModels
Models


Microeconomics Defined

Microeconomics is the study of how individual economic decision-makers such
as consumers, workers, firms or managers allocate scarce resources among
alternate uses.

This study involves both the behavior of these economic agents on their own

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and the way their behavior interacts to form larger units, such as markets.


Who Should Study Microeconomics?

 Policy Makers
 Managers
 Union Leaders

 Business Owners

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 Lenders


Key Societal Questions

1.

What goods and services will be produced and in what quantities

2.

Who will produces these services and how will they produce them

3.

Who will receive these goods and services and how will they get them

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Societies must answer these questions that relate to microeconomics:


Microeconomic Modeling
Choice vs. Alternatives

Models are like maps – using visual methods, they simply the process and facilitate

 Resemble Reality
 Be Understandable
 Be an Appropriate Scale
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understanding of complex concepts. Microeconomic models need to:

Exogenous & Endogenous Variables

Defined:

Variables that have values taken as given in the analysis are exogenous variables. Variables that have values
determined as a result of the model’s workings are endogenous variables.

“How
“Howwould
wouldaamanager
managerhire
hirethe
themost
mostpossible
possibleworkers
workerson
onaabudget
budgetof
of$100?”
$100?”
vs.
vs.

OR
OR

“How
“Howmuch
muchfood
foodand

andclothing
clothingshould
shouldthe
theconsumer
consumerpurchase
purchasein
inorder
orderto
tomaximize
maximizesatisfaction
satisfactionon
onaabudget
budgetof
ofI?”
I?”
vs.
vs.
“What
“Whatisisthe
theminimum
minimumlevel
levelof
ofexpenditure
expenditurethat
thatthe
theconsumer
consumermust
mustreceive
receivein
inorder

orderto
toreach
reachaasubsistence
subsistencelevel
levelof
ofsatisfaction?”
satisfaction?”

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Examples:

“How
“Howwould
wouldaamanager
managerminimize
minimizethe
thecost
costof
ofhiring
hiringthree
threeworkers?”
workers?”


The Objective Function

Dependent on How the Objective Function is Specified

The Objective Function specifies what the agent cares about.

Example:

•• Does
Doesmanager
managercare
caremore
moreabout
aboutraising
raising
profits
profitsor
orincreasing
increasing“power”?
“power”?

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Defined:


The Constraints

Constraints are whatever limits is placed on the resources available to the agent.

 Time
 Budget
 Other Resources
 Technical Capabilities
 The Marketplace
 Rules, Regulations, and Laws
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Examples:

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Defined:


The Constraint Optimization

Behavior can be modeled as optimizing the objective function, subject to various
constraints.

Example:
Manager’s Investment Choice

••
••
••

••

Facilities ( F ): N = budget / $30
Facilities ( F ): N = budget / $30
R&D ( R ):
R&D ( R ):

N = budget / $100
N = budget / $100

Cost Per Unit of Time
Cost Per Unit of Time

Max N
Max N

••
••

(F,R)
(F,R)
Subject to: expenditure < $100
Subject to: expenditure < $100

Facilities workers cost $30
Facilities workers cost $30
R&D workers cost $100
R&D workers cost $100

Where: N is the number of workers

Where: N is the number of workers

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••
••


The Constraint Optimization

Example:
Consumer purchases
Consumer purchases
Food (F), Clothing ( C ), Income (I)
Food (F), Clothing ( C ), Income (I)
Price of food (pf), price of clothing (pc)
Price of food (pf), price of clothing (pc)
Satisfaction from purchases: S = (FC)1/2
Satisfaction from purchases: S = (FC)1/2

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Max S(F,C) - subject to: pfF + pcC < I
Max S(F,C) - subject to: pfF + pcC < I


The Constraint Optimization
Example – Consumer Purchases

F

Example:

C

0
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PFF + PCC = I


The Constraint Optimization
Example – Consumer Purchases

F

Example:

1/2
(FC)
= S0
C

0
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PFF + PCC = I


The Constraint Optimization
Example – Consumer Purchases

F

Example:

1/2
(FC)
= S1
1/2
(FC)
= S0
C

0
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PFF + PCC = I


The Constraint Optimization
Example – Consumer Purchases

F

Example:
PFF + PCC = I

S2 > S1 > S0

1/2
(FC)
= S1
1/2
(FC)
= S0
C

0
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1/2
(FC)
= S2


Marginal Impact

Defined:
The Marginal Impact of a change in the exogenous variable is
the incremental impact of the last unit of the exogenous

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variable on the endogenous variable.


Equilibrium

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Example – Sale of Coffee Beans


Equilibrium
Example – Sale of Coffee Beans

•

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Demand (P,I)


Equilibrium
Example – Sale of Coffee Beans

•

Demand (P,I)

Q*
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P*


Equilibrium

Equilibrium is defined as the point where demand just equals supply in this market (i.e., the
point where the demand and supply curves cross).

Equilibrium
Equilibriumanalysis
analysisisisan
ananalysis
analysisofofaasystem
systemininaastate
statethat
thatwill
will
continue
continue indefinitely
indefinitely asas long
long asas the
the exogenous
exogenous factors
factors remain
remain
unchanged.

unchanged.

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Defined:


Comparative Statics Analysis

Defined:
A Comparative Statics Analysis compares the equilibrium state
of a system before a change in the exogenous variables to the

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equilibrium state after the change.


Comparative Statics Analysis

Sale of

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Pistachio Nuts


Microeconomic Analysis
Some Types

Positive
PositiveAnalysis:
Analysis:

•• IsIsanananalysis
analysisthat
thatattempts
attemptsto
toexplain
explainhow
howan
aneconomic
economicsystem
systemworks
worksor
or
to
topredict

predicthow
howititwill
willchange
changeover
overtime
time

Normative
NormativeAnalysis:
Analysis:

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•• IsIsanananalysis
analysisof
ofwhat
whatshould
shouldbe
bedone
done


Microeconomic Analysis
Some Examples

Example:

Example:“Should
“Shouldwe
weincrease
increaseincome
incomeequality
equalityrather
ratherthan
thanfocus
focuson
on
economic
economicefficiency?”
efficiency?”
Example:
Example:“Should
“Shouldwe
weimpose
imposeaaprogressive
progressiveincome
incometax
taxororaasales
salestax
taxtoto
increase
increaseincome
incomeequality?”
equality?”
Example:
Example: “Will
“Will aa progressive

progressive income
income tax
tax reduce
reduce aggregate
aggregate hours
hours

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worked?”
worked?”