Economics 1: Introduction to Economics
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Transcript of Economics 1: Introduction to Economics
Administrivia
February10,20168-9AMWheelerAuditorium,U.C.Berkeley
WebtoolsandOtherMatters…
• http://www.bradford-delong.com/course-syllabus-econ-1-spring-2016-uc-berkeley.htmlandhttps://bcourses.berkeley.edu/courses/1411451/assignments/syllabus• Sectionexerciseanswerfiles…• ProblemSet2answersthisweekend...• NoTuesdaysections(unlessyourGSIthinksyourclassisbehind,andneedsit)...
• ProblemSet3dueFeb24/25...• PaperAssignment:Dasgupta,Slee,FriedmanandFriedman,oranytwo…• Detailstofollow…
Meta-Announcement
• Wearemovingannouncementsandadministriviaoutoflecturetimeandontothe“announcements”bCoursespage…
• Thatisall…
Except…ToYouri>Clickers!
• SofarthissemesterIhavehad10hoursofofficehoursdedicatedtoEcon1
• 12peoplehaveshowedup,foranaverageof15minuteseach• Question:Whatfractionofoffice-hourtimeisactuallybeingutilized?
A. AllofitB. One-halfofitC. Three-quartersofitD. One-thirdofitE. Lessthananyoftheabove
Except…ToYouri>Clickers!
• SofarthissemesterIhavehad10hoursofofficehoursdedicatedtoEcon1
• 12peoplehaveshowedup,foranaverageof15minuteseach• Question:Whatfractionofoffice-hourtimeisactuallybeingutilized?
A. AllofitB. One-halfofitC. Three-quartersofitD. One-thirdofitE. Lessthananyoftheabove<<
ToYouri>Clickers:Why?
• MytheoryisthatitisbecauseEvansislocatedabout100verticalfeetaboveBancroft&Telegraph
• UnlessyouarealreadyoverinChemistry-landorEngineering-land,youalreadydoenoughhillclimbing
• Question:ShouldImovemyEcon1officehoursdowntoCesarChavezA. YesB. NoC. Haven’tthoughtaboutitD. Don’tcarewhatyoudo
OutofEquilibrium
February8,20168-9AMWheelerAuditorium,U.C.Berkeley
SomeDifficultyonProblemSet2withtheVerticalSupplyCurve
• SomemoreexplicittalkaboutwhatpeoplearedoingontheS&Dgraph…
• Thesupplyanddemandcurvestellyoucombinationsofpriceandquantityforwhichproducersorconsumers,respectively,arecontent—neitherecstaticorunhappy.
• Ifyouareoffthesupply(oroffthedemandcurve)someoneiseitherecstaticorunhappy
• Howecstaticofunhappy?Askatwhatpricetheywouldbewillingtobuy(orsell)thatquantity,andhowthecurrentpricecomparestoit
OutofEquilibriumI• Onthesupplycurve,belowandtotheleftofthedemandcurve:
• Producersarehappy
• Consumersareecstatic:theyarebuyingatpricesthat,forsomereason,arelessthantheycountedonwhentheydecidedhowmuchtobuy
• Atthemarginwillingness-to-payisgreaterthanprice
• Marginalpotentialpurchasersareeagertobuy,andareenteringthemarketplace
OutofEquilibriumII• Onthesupplycurve,aboveandtotherightofthedemandcurve:
• Producersarehappy
• Consumersareunhappy.Someare--forwhateverreason--buyingwhenthecosttheyarepayingisabovetheirwillingness-to-pay
• Marginalconsumersarecuttingtheirpurchases,andexitingthemarketplace
• Thequantitysoldisgoingdown,andthepriceisdropping
OutofEquilibriumIII• Onthedemandcurve,belowandtotherightofthesupplycurve:
• Consumersarehappy
• Producersareunhappy.Theyarereceivinglessmoneythantheythoughttheywouldwhentheydecidedhowmuchtoproduce.
• Forthemarginalproducers,priceisbelowopportunitycost
• Someproducersarecuttingbackproductionandexitingthemarket
• • Thequantityproducedisfalling,andthepriceisgoingup
OutofEquilibriumIV• Onthedemandcurve,aboveandtotheleftofthesupplycurve:
• Consumersarehappy
• Producersareecstatic:theyaresellingwhattheyproduceformorethantheythoughttheywouldwhentheydecidedhowmuchtoproduce
• Formarginalproducers,priceisaboveopportunitycost
• Newproducerswouldlovetoenterandproduce--iftheyareallowedtosell,ortocompetefortheexistingmarket
• Iftheycandoso,thequantityproducedandsoldisrising,andthepriceisgoingdown
Accounting
February8,20168-9AMWheelerAuditorium,U.C.Berkeley
AccountingandAmortization
• Variablecostsandfixedcosts
• Decentralizedproducers• Organizedproducers• Increasingreturns—economiesofscale—non-rivalry
• Thisword“amortization”:whatdoesitmen
Monopoly:MarginalRevenueandMarginalCost
• Weknowwhatamonopolydoes
• Andweknowwhatthemonopoly’soperatingcashflowis
• It’stherectangularwedgebetweenthepricelineandtheopportunitycostofdecentralizedproducers/marginalcosttomonopolistline
Monopoly:FixedCosts
• Butisthatrectanglethemonopolist’sprofit?• Almostsurelynot• What’skeepingpeoplefromcompetingwiththemonopolist?• Almostsurelysomeup-frontcost…• Themonopolyhashadtoborrowmoneyfrominvestorsinordertofinanceitsoperations
• Operatingsurplushastobelargeenoughtoamortizefixedcostsorthebusinesswilllosemoney
• Ifoperatingsurplusispositivethebusinesswillkeeprunning—shutdownwouldbeevenworse
• Butifoperatingsurplusdoesnotcovertheirshareofthefixedcosts,investorswillbeunhappy
WhatAretheMonopoly’sTrueProfits?I
• Gototheprofit-maximizingpoint—wheremarginal/opportunitycostequalsmarginalrevenue
• Taketheaverageopportunitycost—theaveragevariablecost.
• Addtoittheper-unitamortizationofthefixedcosts• Thatwill—forpurefixedcosts—beahyperbola
• Multiplybythequantity• PROFIT!=(P-AOC-AFC)xQ
WhatAretheMonopoly’sTrueProfits?II
• Gototheprofit-maximizingpoint—wheremarginal/opportunitycostequalsmarginalrevenue
• Taketheaverageopportunitycost—theaveragevariablecost.
• (P-AOC)xQ=OperatingSurplus
Aside:DecentralizedProducers• Decentralizedproducersmakemoreproductuptothepointwherethesupplycurve—theMOCline—crossesthedemandcurve
• Decentralizedproducersdon’ttakeaccountofhowtheirexpandingproductionreducestherevenueearnedbytheotherproducers
• Sincethemonopolistiscentralizedandorganizedandoneentity,itcananddoes
• AstheeconomymovesdownthedemandcurvetotherightofwhereMR=MC,producers’netrevenueisdropping
WhatAretheMonopoly’sTrueProfits?III
• Gototheprofit-maximizingpoint—wheremarginal/opportunitycostequalsmarginalrevenue
• Taketheaverageopportunitycost—theaveragevariablecost.
• ButyouhavetoaddtotheAOCtheper-unitamortizationofthefixedcosts• Thatwill—forpurefixedcosts—beahyperbola
• AFC=TFC/Q
WhatAretheMonopoly’sTrueProfits?IV
• Gototheprofit-maximizingpoint—wheremarginal/opportunitycostequalsmarginalrevenue
• Taketheaverageopportunitycost—theaveragevariablecost.
• Addtoittheper-unitamortizationofthefixedcosts• Thatwill—forpurefixedcosts—beahyperbola
• Multiplybythequantity• PROFIT!=(P-AOC-AFC)xQ
TheOptimalityoftheMarketIsHereBreakingDown
• Gototheprofit-maximizingpoint—wheremarginal/opportunitycostequalsmarginalrevenue
• Taketheaverageopportunitycost—theaveragevariablecost.
• Addtoittheper-unitamortizationofthefixedcosts• Thatwill—forpurefixedcosts—beahyperbola
• Multiplybythequantity• PROFIT!=(P-AOC-AFC)xQ
CalculatingMonopoly
February8,20168-9AMWheelerAuditorium,U.C.Berkeley
StartwithaMonopolyAlreadyEstablished
• AbunchofalumniofCronyCapitalismUniversityinOldStickestablishamonopolyoverlatteproductioninAvicenna…
• Weknowtheirdecisionproblem:
• Demand:P=Pd0-dQ• MR=Pd0-2dQ• MC=S=Ps0+sQ• MR=MC
OurMonopolyExample…• ThefinanciersfromCCUhaveboughtupallthecoffeeshopsinAvicenna:
• Nowthereisamonopoly• Weknowitsdecisionproblemingeneral:
• Demand:P=Pd0-dQ• MR=Pd0-2dQ• MC=Ps0+sQ• MR=MC
• Let’sputsome(ofourstandard)numbersinhere
PutSomeNumberson...• Ingeneralthelattermonopoly'sproblemhasthisstructure:
• Demand:P=Pd0-dQ• MR=Pd0-2dQ• MC=Ps0+sQ
• Specifically,inthisparticularcasewehave:
• Demand:P=$10-0.0002Q• MR=$10-0.0004Q• MC=$2
ToYouri>Clickers:TheProfit-MaximizingQuantityIs…
• Demand:P=Pd0-dQ• MR=Pd0-2dQ;MC=Ps0+sQ
• Demand:P=$10-0.0002Q• MR=$10-0.0004Q;MC=$2
• Toyouri>Clickers…Whatistheprofit-maximizingquantitythemonopolistshouldproduce?
A. 0B. 50000C. 40000D. 20000E. 25000
ToYouri>Clickers:TheProfit-MaximizingQuantityIs…
• Demand:P=Pd0-dQ• MR=Pd0-2dQ;MC=Ps0+sQ
• Demand:P=$10-0.0002Q• MR=$10-0.0004Q;MC=$2
• Toyouri>Clickers…Whatistheprofit-maximizingquantitythemonopolistshouldproduce?
A. 0B. 50000C. 40000D. 20000<<E. 25000
CalculatingWhattheProfit-MaximizingMonopolistDoes…
• Either“it’swheretheMRcurvecrossestheMCcurve”,or…
• Demand:P=Pd0-dQ• MR=Pd0-2dQ;MC=Ps0+sQ
• Pd0-2dQ=Ps0+sQ• (Pd0-Ps0)=(s+2d)Q• Qm=(Pd0-Ps0)/(s+2d)• Themonopolistrestrictssupplyandreducesthequantity
• Either“it’swheretheMRcurvecrossestheMCcurve”,or…
• Demand:P=$10-0.0002Q• MR=$10-0.0004Q;MC=$2
• $10-0.0004Q=$2• $8=0.0004Q• Qm=20000—themonopolistrestrictssupplyandreducesthequantity
CalculatingWhattheProfit-MaximizingMonopolistDoes…II
• Demand:P=Pd0-dQ• MR=Pd0-2dQ;MC=Ps0+sQ
• Pd0-2dQ=Ps0+sQ• (Pd0-Ps0)=(s+2d)Q• Qm=(Pd0-Ps0)/(s+2d)
• Themonopolistrestrictssupplyandreducesthequantity
• Whyrestrictthequantity?• Inordertoraisetheprice--andraisethepricebymorethanenoughtooffsetreducedquantity:
• Pm=Pd0-dPd0/(s+2d)+dPs0/(s+2d)• Pm=[(s+d)/(s+2d)]Pd0+[d/(s+2d)]Ps0
• Demand:P=$10-0.0002Q• MR=$10-0.0004Q;MC=$2
• $10-0.0004Q=$2• $8=0.0004Q• Qm=20000
• Themonopolistrestrictssupplyandreducesthequantity
• Whyrestrictthequantity?• Inordertoraisetheprice• Andtoraisethepricebymorethanenoughtooffsetreducedquantityinitseffectonprofits:
• Pm=$10-.0002($10)/.0004+.0002($2)/.0004
• Pm=[1/2]($10)+[1/2]($2)=$6
CalculatingConsumerandProducerSurplusUnderMonopoly• MR=Pd0-2dQ• MC=Ps0+sQ• Qm=(Pd0-Ps0)/(s+2d)• Pm=[(s+d)/(s+2d)]Pd0 +[d/(s+2d)]Ps0
• ConsumerSurplus:• CS=(AWTP-Pm)xQm• AWTP=(Pd0+Pm)/2
• ProducerSurplus:• PS=(Pm-AC)xQm• AC=Ps0+sQm/2
CalculatingConsumerandProducerSurplusUnderMonopolyII
• ConsumerSurplus:• CS=(AWTP-Pm)xQm• AWTP=(Pd0+Pm)/2
• ConsumerSurplusiscertainlynotgoingtobegreaterthaninacompetitivemarket• Canyouthinkofanexampleinwhichitisthesame?
CalculatingConsumerandProducerSurplusUnderMonopolyIII
• ProducerSurplus:• PS=(Pm-AC)xQm• AC=Ps0+sQm/2
• ProducerSurplusiscertainlynotgoingtobelessthaninacompetitivemarket• Canyouthinkofanexampleinwhichitisthesame?
TheDeadweightLossfromMonopoly
• Themonopoliststopsproducingwhenthereisstillawedgebetweenthewillingness-to-payofthenextpotentialpurchaserandsociety’sopportunitycost…• AwedgeequaltodxQm
• Theaveragesurplusforegonepertransactionnotmade?
• Thatishalfofthiswedge
TheDeadweightLossfromMonopolyII
• Themonopoliststopsproducingwhenthereisstillawedgebetweenthewillingness-to-payofthenextpotentialpurchaserandsociety’sopportunitycost…• AwedgeequaltodQm
• Theaveragesurplusforegonepertransactionnotmade?
• Thatishalfofthatwedge
• Thenumberofwin-wintransactionsnotmadeissimplyQ*-Qm
• Hence:DWL=dQm(Q*-Qm)/2
• Thereareotherformulas—buttheyarenotterriblyilluminating
ToYouri>Clickers:TheDeadweightLossfromMonopoly
• Inourexample,wehad:• Demand:P=$10-0.0002Q• “Supply”:MOC=$2• Q*=40000• Qm=20000• DWL=dQm(Q*-Qm)/2
• Toyouri>Clickers:whatisthedeadweightlossfrommonopolyhere?
A. $160000B. $80000C. $40000D. $250000E. Idon’thaveenough
information
ToYouri>Clickers:TheDeadweightLossfromMonopoly
• Inourexample,wehad:• Demand:P=$10-0.0002Q• Q*=40000• Qm=20000• DWL=dQm(Q*-Qm)/2
• Toyouri>Clickers:whatisthedeadweightlossfrommonopolyhere?
A. $160000B. $80000C. $40000<<D. $250000E. Idon’thaveenough
information
TheDeadweightLossfromMonopoly:OurExampleIII
• Inourexample,wehad:• Demand:P=Pd0-dxQ• Demand:P=$10-0.0002Q• Q*=40000• Qm=20000• DWL=dQm(Q*-Qm)/2• Inthisexample,DWL=$40000
• Consumersurplusiscutby3/4,from$160000inourcompetitivefree-marketcaseto$40000inthemonopolycase:thisisaratherlargecosttoconsumers
• Producersurplus—monopolyprofit—is$80000
TheDeadweightLossfromMonopoly:OurExampleIV
• InthewordsofMelBrooks:“Itisgoodtobethemonopolist!”
• Formalmonopoly,andinformalcollusion:• InthewordsofAdamSmith:“Peopleofthesametradeseldommeettogether,evenformerrimentanddiversion,buttheconversationendsinaconspiracyagainstthepublic…orinsomecontrivancetoraiseprices.”
OriginsandPersistenceofMonopolies
February8,20168-9AMWheelerAuditorium,U.C.Berkeley
HowIsItThatMonopoliesAriseandPersist?
1. Thegovernmentestablishesthem• Forbadreasons(therent-seekingsociety)
• Forgoodreasons(encourageinventionandinnovation)
2. Theydon’tpersist—competitorsenteranderodethemovertime
3. Successfulstrategicgame-playingbythemonopolisttodiscourageentry
4. “Natural”monopolies5. "Networkexternality"monopolies
• "21JumpStreet"• "TheHanSoloOriginStory"
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