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Revision Lecture 1

EC202: Microeconomic Principles IIEC202: Microeconomic Principles IIFrank Cowell Frank Cowell

May 2008May 2008

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Objectives of the lecture

A look back at Term 1A look back at Term 1 Introduction to exam preparationIntroduction to exam preparation Reference materials used (1)Reference materials used (1)

exam papers (and outline answers)exam papers (and outline answers) 2003 1(c)2003 1(c) 2004 1(c)2004 1(c) 2005 1(a)2005 1(a) 2006 1(a)2006 1(a) 2007 1(a)2007 1(a)

Reference materials used (2) Reference materials used (2) CfD presentations 2.9CfD presentations 2.9 related to past exam questionrelated to past exam question (...more to follow next week)(...more to follow next week)

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Principles

Scope of exam materialScope of exam material what’s covered in the lectures…what’s covered in the lectures… … … is definitive for the examis definitive for the exam

ResitResit syllabus for 2007/8 is same as 2006/7syllabus for 2007/8 is same as 2006/7 so resit candidates from last year get so resit candidates from last year get the same paperthe same paper as new candidates as new candidates

Structure and format of paperStructure and format of paper follows that of last three yearsfollows that of last three years check out the rubric from, say, 2007 papercheck out the rubric from, say, 2007 paper

Mark schemeMark scheme 40 marks for question 1 (8 marks for each of the five parts)40 marks for question 1 (8 marks for each of the five parts) 20 marks for each of the other three questions20 marks for each of the other three questions multipart questions: except where it’s obvious, roughly equal marks across parts multipart questions: except where it’s obvious, roughly equal marks across parts

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Question Style – three types

1 Principles1 Principles reason on standard results and argumentsreason on standard results and arguments can use verbal and/or mathematical reasoningcan use verbal and/or mathematical reasoning

2 Model solving2 Model solving a standard frameworka standard framework you just turn the wheelsyou just turn the wheels

3 Model building3 Model building usually get guidance in the questionusually get guidance in the question longer question sometimes easier?longer question sometimes easier?

One type not necessarily “easier” or “harder” than another One type not necessarily “easier” or “harder” than another get you to display different skillsget you to display different skills part A (question 1) usually gets you to do both types 1 and 2part A (question 1) usually gets you to do both types 1 and 2 type 3 usually only in parts B and C of papertype 3 usually only in parts B and C of paper

Examples from past question 1

Examples from past question 1

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2004 1(c) Straightforward Straightforward

“principles” question“principles” question Just say what you need Just say what you need

to sayto say

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2005 1(a) Straight “principles”Straight “principles” Note contrast between Note contrast between

firm and consumerfirm and consumer Be sure to Be sure to give your give your

reasonsreasons

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2006 1(a) Principles againPrinciples again But format of question But format of question

gives you a hint…gives you a hint… ……write out write out

decomposition formuladecomposition formula Then read off resultsThen read off results

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2003 1(c) A model-solving A model-solving

questionquestion (i) just set (i) just set EE(() = 0 and ) = 0 and

twiddletwiddle (ii) check what (ii) check what

happens to happens to EE if you if you change change

(iii) draw diagram and (iii) draw diagram and reasonreason

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2007 1(a) – question and approach

A “hybrid” A “hybrid” questionquestion

Mainly model-Mainly model-solvingsolving

But there’s an But there’s an important important principleprinciple

will a solution even exist?

What’s the solution to the monopolist’s problem?What’s the solution to the monopolist’s problem? Approach:Approach:

Find the expression for profitsFind the expression for profits Then try to maximise…Then try to maximise…

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2007 1(a) – main answer To get profits we To get profits we

need demand need demand functionfunction

You could just You could just jump to last linejump to last line

Now write down Now write down profit expressionprofit expression

Note wording in Note wording in last linelast line

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2007 1(a) – finishing off answer

Use knowledge of Use knowledge of basic principlesbasic principles

Effectively the Effectively the competitive casecompetitive case

No solution!No solution! (we covered this in (we covered this in

lectures)lectures)

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Long questions Let’s look at an exampleLet’s look at an example

taken from exercise in the booktaken from exercise in the book but of “exam type” difficultybut of “exam type” difficulty covered in CfDcovered in CfD

Illustrates type 2 questionIllustrates type 2 question Ex 2.9 is mainly model solvingEx 2.9 is mainly model solving next week: look at model buildingnext week: look at model building

Look out for tipsLook out for tips Use simple principles to give you a shortcut to the answerUse simple principles to give you a shortcut to the answer Use pictures where they helpUse pictures where they help

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Ex 2.9(1): Question

purposepurpose: demonstrate relationship between short and long run: demonstrate relationship between short and long run methodmethod: Lagrangean approach to cost minimisation. First part can be solved : Lagrangean approach to cost minimisation. First part can be solved

by a “trick”by a “trick”

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Ex 2.9(1): Long-run costs

Production function is homogeneous of degree 1Production function is homogeneous of degree 1 increase all inputs by a factor increase all inputs by a factor tt > 0 (i.e. > 0 (i.e. zz →→ ttzz)…)… ……and output increases by the same factor (i.e. and output increases by the same factor (i.e. qq →→ tqtq)) constant returns to scale in the long runconstant returns to scale in the long run

CRTS implies constant average costCRTS implies constant average cost CC((ww, , qq) / ) / qq = = AA (a constant) (a constant) so so CC((ww, , qq) = ) = AqAq differentiating: differentiating: CCqq((ww, , qq) = ) = AA

So LRMC = LRAC = constantSo LRMC = LRAC = constant Their graphs will be an identical straight lineTheir graphs will be an identical straight line

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Ex 2.9(2): Question

methodmethod: : Standard Lagrangean approachStandard Lagrangean approach

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Ex 2.9(2): short-run Lagrangean In the short run amount of good 3 is fixedIn the short run amount of good 3 is fixed

zz33 = = zz33

Could write the Lagrangean asCould write the Lagrangean as

But it is more convenient to transform the problem thusBut it is more convenient to transform the problem thus

wherewhere

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z2

z1

Ex 2.9(2): Isoquants Sketch the isoquant mapSketch the isoquant map

Isoquants do not touch the axesIsoquants do not touch the axes So maximum problem must have an interior solutionSo maximum problem must have an interior solution

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Ex 2.9(2): short-run FOCs

Differentiating Lagrangean, the FOCS areDifferentiating Lagrangean, the FOCS are

This impliesThis implies

To find conditional demand function must solve for To find conditional demand function must solve for use the above equations… use the above equations… ……and the production functionand the production function

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Ex 2.9(2): short-run FOCs (more) Using FOCs and the production function:Using FOCs and the production function:

This impliesThis implies

wherewhere

This will give us the short-run cost functionThis will give us the short-run cost function

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Ex 2.9(2): short-run costs By definition, short-run By definition, short-run

costs are:costs are:

This becomesThis becomes

Substituting for Substituting for kk::

From this we getFrom this we get

SRAC:SRAC:

SRMC:SRMC:

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q

Ex 2.9(2): short-run MC and AC

marginalcost

averagecost

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Ex 2.9(3): Question

methodmethod: : Draw the standard supply-curve diagramDraw the standard supply-curve diagram Manipulate the relationship Manipulate the relationship pp = MC = MC

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Ex 2.9(3): short-run supply curveaverage cost curvemarginal cost curve

supply curve

q

p

q

p

minimum average cost

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Use the expression for marginal cost:Use the expression for marginal cost: Set Set p p = MC for = MC for pp ≥≥ pp Rearrange to get supply curveRearrange to get supply curve

Differentiate last line to get supply elasticityDifferentiate last line to get supply elasticity

Ex 2.9(3): short-run supply elasticity

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Ex 2.9: Points to remember

Exploit CRTS to give you easy resultsExploit CRTS to give you easy results Try transforming the Lagrangean to make it easier to Try transforming the Lagrangean to make it easier to

manipulatemanipulate Use MC curve to derive supply curveUse MC curve to derive supply curve

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Next time

Think more about method for long questionsThink more about method for long questions Look at a few CfDLook at a few CfD

4.12, 4.134.12, 4.13 5.15.1 7.87.8 9.69.6

See how they illustrate methodSee how they illustrate method Connect these to past exam questionsConnect these to past exam questions