150 practice questions and 100 flashcards covering supply, demand, elasticity, consumer theory, market structures, and market failures.
Microeconomics 101 covers the economics of individual decision-making: how consumers choose, how firms produce and price, and how markets behave under different competitive conditions. Tour practice set covers all standard first-year microeconomics topics: supply and demand, elasticity, production and cost theory, market structures (perfect competition, monopoly, oligopoly, monopolistic competition), and market failure and externalities.
Microeconomics is a graph-heavy subject โ supply and demand diagrams, cost curves, and indifference curves are core analytical tools, not optional extras. Every explanation describes what is happening in the relevant graph as well as in words.
Microeconomics 101. Studies how individuals and firms make decisions, how markets coordinate activity, and what happens when markets fail. Covers supply and demand, elasticity, consumer and producer surplus, production and costs, market structures (perfect competition, monopoly, oligopoly), factor markets, and market failures including externalities and public goods.
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Question 01 of 150
What is the law of demand?
Explanation: Law of demand: downward-sloping demand curve. Reasons: substitution effect (switch to substitutes), income effect (feel poorer), diminishing marginal utility. Exceptions: Giffen goods, Veblen goods.
Question 02 of 150
What is the law of supply?
Explanation: Law of supply: upward-sloping supply curve. Higher price: more profitable to produce โ more supplied. Exceptions: backward-bending labour supply curve.
Question 03 of 150
What is market equilibrium?
Explanation: Equilibrium: QD=QS at equilibrium price P*. At P>P*: surplus (QS>QD) โ price falls. At PQS) โ price rises. Self-correcting mechanism.
Question 04 of 150
What is a shortage?
Explanation: Shortage: QD > QS. Price is too low. Market pressure: price rises until QD=QS. e.g., price controls (rent control, price ceilings) create persistent shortages.
Question 05 of 150
What is a surplus?
Explanation: Surplus: QS > QD. Price is too high. Market pressure: price falls until QD=QS. e.g., agricultural price floors create persistent surpluses (food mountains in EU).
Question 06 of 150
What shifts the demand curve?
Explanation: Demand shifters (PRINT): Prices of related goods, Related expectations, Income, Number of buyers, Tastes. Price change โ movement along demand curve. Everything else โ shift.
Question 07 of 150
What shifts the supply curve?
Explanation: Supply shifters (PRNTES): Prices of inputs, Resource prices, Number of sellers, Technology, Expectations, Subsidies/taxes. Input cost rise โ supply decreases (shifts left).
Question 08 of 150
What is price elasticity of demand (PED)?
Explanation: PED = %ฮQD / %ฮP. Elastic: |PED|>1 (luxury goods, many substitutes). Inelastic: |PED|<1 (necessities, few substitutes). Unit elastic: |PED|=1.
Question 09 of 150
What determines elasticity of demand?
Explanation: Elastic demand: many substitutes (Coke vs Pepsi), luxury, high % of income, long time horizon. Inelastic: few substitutes, necessities (insulin), small % of income, addictive.
Question 10 of 150
What is cross-price elasticity of demand?
Explanation: Cross-price PED = %ฮQD_A / %ฮP_B. Positive: substitutes (butter and margarine). Negative: complements (cars and petrol). Zero: unrelated goods.
Question 11 of 150
What is income elasticity of demand?
Explanation: YED = %ฮQD / %ฮY. Normal good: YED>0 (quantity increases with income). Luxury: YED>1 (demand rises faster than income). Inferior: YED<0 (quantity falls as income rises). e.g., bus travel.
Question 12 of 150
What is consumer surplus?
Explanation: Consumer surplus: willingness to pay - actual price. Total = area of triangle above equilibrium price and below demand curve. Increases when price falls.
Question 13 of 150
What is producer surplus?
Explanation: Producer surplus: price received - opportunity cost. Total = area below equilibrium price and above supply curve. Increases when price rises.
Question 14 of 150
What is the efficiency of competitive markets?
Explanation: Allocative efficiency: P = MC. Total surplus maximised at competitive equilibrium. Deadweight loss: inefficiency from market distortions (taxes, monopoly, price controls).
Explanation: Price floor (P_min): e.g., minimum wage, agricultural support price. If above equilibrium: surplus (unemployment in labour market). Effective floor > equilibrium.
Question 17 of 150
What is an excise tax and its effect?
Explanation: Excise tax: seller pays โ supply shifts left by tax amount. Price rises by less than tax (shared burden). Incidence depends on elasticities: inelastic side bears more of the tax.
Question 18 of 150
What is tax incidence?
Explanation: Tax incidence: more inelastic side bears more. Inelastic demand (petrol): consumers bear most. Inelastic supply: producers bear most. Legal incidence (who pays) โ economic incidence (who bears burden).
Question 19 of 150
What is deadweight loss?
Explanation: DWL: triangle between supply and demand curves, between new and old quantities. Tax: DWL = ยฝ ร tax ร change in Q. Larger with more elastic supply and demand.
Question 20 of 150
What is the production function?
Explanation: Production function: Q = f(K,L). Short run: at least one input fixed (capital). Long run: all inputs variable. Total Product, Marginal Product, Average Product.
Question 21 of 150
What is diminishing marginal returns?
Explanation: Diminishing marginal returns (short run): add more workers to fixed factory โ eventually MP_L falls. Different from diseconomies of scale (long run). Law of diminishing marginal returns.
Question 22 of 150
What is average total cost (ATC)?
Explanation: ATC: AFC + AVC. Falls initially (fixed cost spread over more units), then rises (diminishing returns). MC intersects ATC at minimum ATC. Profit = (P - ATC) ร Q.
Question 23 of 150
What is marginal cost (MC)?
Explanation: MC: upward-sloping in short run (diminishing marginal returns). MC intersects AVC and ATC at their minima. Profit maximisation: produce where MR = MC.
Question 24 of 150
What is the profit-maximising output rule?
Explanation: MR = MC: if MR > MC โ produce more (adds to profit). If MR < MC โ produce less. P > ATC: economic profit. P < AVC: shut down. AVC < P < ATC: produce but at a loss (cover VC, contribute to FC).
Question 25 of 150
What is perfect competition?
Explanation: Perfect competition: P = MR = AR. Long-run equilibrium: P = MC = ATC (zero economic profit). Allocatively and productively efficient. Examples: agricultural commodities.
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Question 26 of 150
What is a monopoly?
Explanation: Monopoly: P > MC (allocative inefficiency). Maximum profit: MR=MC. DWL from monopoly. Sources of monopoly power: patents, network effects, natural monopoly, government franchise.
Question 27 of 150
What is a natural monopoly?
Explanation: Natural monopoly: high fixed costs, low marginal costs (utilities, telecoms, railways). ATC always declining โ one firm more efficient. Usually regulated (price = ATC to break even).
Question 28 of 150
What is an oligopoly?
Explanation: Oligopoly: few firms, high barriers to entry. Models: Nash equilibrium, Cournot (quantity), Bertrand (price), kinked demand curve. Game theory applies. Cartel: formal collusion.
Question 29 of 150
What is monopolistic competition?
Explanation: Monopolistic competition: many firms, differentiated products (branding, quality), free entry. Long run: P = ATC (zero economic profit) but P > MC (excess capacity, DWL).
Explanation: Public good: non-excludable + non-rival. e.g., national defence, street lighting, public fireworks. Free rider problem โ market underprovides. Government provision or subsidy.
Question 32 of 150
What is the free rider problem?
Explanation: Free rider: rational not to pay if you get the benefit anyway. No firm can profitably provide a non-excludable good. Market failure โ government provides (tax-funded) or uses regulation.
Question 33 of 150
What is marginal utility?
Explanation: MU: first slice of pizza: high MU. Fifth slice: lower MU. Law of diminishing marginal utility. Consumer equilibrium: MU_A/P_A = MU_B/P_B (equimarginal principle).
Question 34 of 150
What is the substitution effect?
Explanation: Substitution effect: always negative (price up โ QD down). Price of A rises: A relatively more expensive โ substitute toward B. Always works against price rise.
Question 35 of 150
What is the income effect?
Explanation: Income effect: normal good: price rises โ real income falls โ demand falls (reinforces sub effect). Inferior good: price rises โ real income falls โ demand rises. Giffen good: income effect > substitution effect.
Question 36 of 150
What is a Giffen good?
Explanation: Giffen good: very inferior, consumes large budget share. Irish potatoes during famine: price rose โ couldn't afford meat โ bought more potatoes. Upward-sloping demand curve.
Question 37 of 150
What is a Veblen good?
Explanation: Veblen good: conspicuous consumption (Veblen). Higher price โ more desirable (luxury watches, designer handbags). Demand curve: upward-sloping over some range.
Question 38 of 150
What is the production possibilities frontier (PPF)?
Explanation: Opportunity cost: study 1 more hour โ give up 1 hour of sleep. Basis of comparative advantage. Bowed-out PPF: increasing opportunity cost as resources not perfectly adaptable.
Question 40 of 150
What is the shut-down rule?
Explanation: Short-run shut-down: if P < AVC โ revenue < VC โ can't cover variable costs โ better to shut down (only lose FC). If P > AVC but < ATC โ operate (contribution to FC).
Question 41 of 150
What is price discrimination?
Explanation: Price discrimination: 1st degree (perfect): charge each consumer their WTP. 2nd degree: quantity discounts. 3rd degree: different groups (students, seniors). Increases profit, affects CS.
Question 42 of 150
What is a Nash equilibrium?
Explanation: Nash equilibrium: all players playing best response to each other. Prisoner's dilemma equilibrium: both defect (not the socially optimal outcome). Used in oligopoly analysis.
Question 43 of 150
What is the prisoner's dilemma?
Explanation: Prisoner's dilemma: both confess โ both get 5 years. If cooperated (both silent) โ both get 1 year. Individual rationality leads to collective suboptimality. Explains why cartels are unstable.
Question 44 of 150
What is a cartel?
Explanation: Cartel: OPEC is famous example (oil quotas). Each member has incentive to cheat (expand output). Prisoner's dilemma: cheat is dominant strategy โ cartels tend to collapse. Illegal antitrust.
Question 45 of 150
What is the difference between economic and accounting profit?
Explanation: Accounting profit: TR - explicit costs. Economic profit: TR - explicit - implicit costs. Normal profit: zero economic profit. Long-run competitive equilibrium: zero economic profit.
Explanation: Diseconomies: ATC rises with Q. Causes: coordination problems in large firms, principal-agent issues, bureaucracy, loss of focus. Optimal scale: minimum efficient scale.
Question 48 of 150
What is a merit good?
Explanation: Merit good (Musgrave): positive externalities + people undervalue them (myopia). Government provides or subsidises: education, healthcare, libraries, museums.
Question 49 of 150
What is information asymmetry?
Explanation: Asymmetric information: used car market (Akerlof's lemons). Adverse selection: bad risks crowd out good (insurance). Moral hazard: change behaviour after insured. Signalling, screening solutions.
Question 50 of 150
What is adverse selection?
Explanation: Adverse selection: people know their own health risk better than insurer. High-risk individuals buy more insurance โ pool riskier โ premiums rise โ low-risk drop out โ market unravels. Mandate solves.
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Question 51 of 150
What is moral hazard?
Explanation: Moral hazard: insured car owner drives more recklessly. Health insurance: may use more healthcare. Deductibles and co-payments reduce moral hazard (maintain some financial stake).
Question 52 of 150
What is a subsidy and its effect?
Explanation: Producer subsidy: supply shifts right. P falls, Q rises. DWL: overproduction. Consumer subsidy: demand shifts right. Used to correct positive externalities or support merit goods.
Question 53 of 150
What is the equimarginal principle?
Explanation: Equimarginal: if MU_A/P_A > MU_B/P_B: buy more A, less B until equal. Budget allocation: last rand on each good gives same additional utility.
Question 54 of 150
What is the indifference curve?
Explanation: Indifference curve: downward sloping, convex to origin (diminishing MRS), never cross. Consumer optimum: highest indifference curve tangent to budget line. MRS = P_x/P_y.
Question 55 of 150
What is the budget constraint?
Explanation: Budget constraint: P_xรX + P_yรY = I. Slope = -P_x/P_y. Price rise in X: rotates inward at X-axis. Income rise: parallel shift outward. Consumer choice: tangency with highest IC.
Explanation: Productive efficiency: P = min ATC. Achieved in long-run perfect competition. Not achieved by monopoly (excess capacity in monopolistic competition; X-inefficiency in monopoly).
Question 58 of 150
What is allocative efficiency?
Explanation: Allocative efficiency: P = MC. Value to society (P) = cost to society (MC). DWL when P โ MC (monopoly: P > MC; negative externality: too much produced).
Question 59 of 150
What is Pareto efficiency?
Explanation: Pareto optimum: reallocating resources: if you can make someone better off without hurting anyone, the current allocation is not Pareto efficient. Competitive equilibrium: Pareto efficient.
Question 60 of 150
What is factor markets?
Explanation: Factor markets: labour market (wages), capital market (interest), land market (rent). Firms demand factors derived from demand for output. W = MRP_L at profit-maximising level.
Question 61 of 150
What is marginal revenue product (MRP)?
Explanation: MRP_L = MP_L ร MR (= MP_L ร P in perfect competition). Firm hires labour until W = MRP_L. Downward-sloping MRP curve: diminishing MP. Labour demand curve.
Question 62 of 150
What is the minimum efficient scale?
Explanation: MES: where LRATC is minimised. Industry with low MES: many small firms can compete (restaurants). High MES: few large firms (aircraft manufacturing). Natural monopoly: MES > entire market.
Question 63 of 150
What is predatory pricing?
Explanation: Predatory pricing: illegal in most jurisdictions. Firm must have deep pockets to sustain losses. After rivals exit: raise prices above competitive level. Hard to prove legally.
Question 64 of 150
What is the kinked demand curve model?
Explanation: Kinked demand: explains price stickiness in oligopolies. MR curve has gap (discontinuity). Wide range of MC still gives same profit-maximising price. Doesn't explain how kink price determined.
Question 65 of 150
What is consumer theory?
Explanation: Consumer theory: utility maximisation. Preferences represented by indifference curves. Budget constraint: affordability. Optimal choice: tangency (highest IC on budget line).
Question 66 of 150
What is the marginal rate of substitution (MRS)?
Explanation: MRS: slope of indifference curve. Diminishing MRS: as consume more X, willing to give up less Y for another unit of X. Convexity of IC reflects diminishing MRS.
Question 67 of 150
What is Engel's law?
Explanation: Engel's Law (Ernst Engel, 1857): food expenditure as % of income falls with rising income. Confirmed empirically. Low-income households: 30-50% on food. Rich: < 10%.
Question 68 of 150
What is a complement?
Explanation: Complements: cars and petrol, printers and ink, coffee and sugar. Cross-price PED < 0. Complementary products: bundling strategy, platform ecosystems.
Question 69 of 150
What is a substitute?
Explanation: Substitutes: Coke and Pepsi, butter and margarine, train and bus. Cross-price PED > 0. Close substitutes: very elastic demand. Monopoly power reduced by availability of substitutes.
Question 70 of 150
What is the concept of utility?
Explanation: Utility: ordinal (prefer A to B) not cardinal (A gives 100 utils, B gives 50 โ meaningless). Total utility increases but at diminishing rate. Marginal utility: addition to total utility.
Question 71 of 150
What is the Coase theorem?
Explanation: Coase theorem: externalities can be solved privately through bargaining. Factory pollutes: homeowners can pay factory to reduce. Or factory pays homeowners. Efficient regardless of who has rights.
Question 72 of 150
What is regulatory capture?
Explanation: Regulatory capture: regulated firms lobby, fund, and staff regulatory agencies โ regulation serves industry not public. Revolving door between industry and regulators.
Question 73 of 150
What is government failure?
Explanation: Government failure: price controls โ shortages. Subsidies โ overproduction. Regulatory capture. Political incentives misaligned with efficiency. Sometimes market failure > government failure.
Question 74 of 150
What is the labour supply curve?
Explanation: Backward-bending: at low wages: higher wage โ more work (substitution > income). At high wages: higher wage โ work less (income effect dominates: can afford leisure). Individual vs market supply differ.
Question 75 of 150
What is economic rent?
Explanation: Economic rent: payment above minimum needed to keep factor in use. Land: completely inelastic supply โ all earnings are rent. Celebrity wages: large rent component. Taxing rent is non-distortionary.
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Question 76 of 150
What is the concept of elasticity of supply?
Explanation: PES: elastic (>1): supply responds significantly. Inelastic (<1): supply doesn't respond much. Very short run: perfectly inelastic (supply fixed). Long run: more elastic. Agriculture: inelastic short run.
Question 77 of 150
What is the Laffer curve in microeconomics?
Explanation: Laffer curve: if tax rate = 0%: no revenue. If 100%: no one works โ no revenue. Peak at some optimal rate. Controversial in practice: where is current rate relative to peak?
Question 78 of 150
What is consumer rationality assumption?
Explanation: Rationality: consistent preferences (transitivity), self-interest, utility maximisation. Behavioural economics challenges: bounded rationality (Kahneman), heuristics and biases, loss aversion, status quo bias.
Question 79 of 150
What is loss aversion?
Explanation: Loss aversion: Kahneman-Tversky prospect theory. Loss ~2ร as painful as equivalent gain. Explains: status quo bias, endowment effect, why people hold losing stocks too long.
Question 80 of 150
What is the endowment effect?
Explanation: Endowment effect: mug experiment (Thaler): sellers demanded ~$7, buyers offered ~$3 for same mug. Consistent with loss aversion: selling = loss (hurts more). Behavioural economics.
Question 81 of 150
What is the concept of sunk costs?
Explanation: Sunk cost fallacy: 'I've already spent R500 on concert tickets, I must go even though I'm ill.' Rational: only consider future costs and benefits. Sunk cost: irrelevant to future decisions.
Question 82 of 150
What is market power?
Explanation: Market power: P/MC ratio = Lerner index. Perfect competition: zero market power (P=MC). Monopoly: maximum market power. Source: barriers to entry, differentiation, network effects.
Question 83 of 150
What is a two-sided market?
Explanation: Two-sided markets: platform business model. Cross-side network effects: more merchants โ more cardholder value โ more merchants. Pricing strategy: often subsidise one side.
Question 84 of 150
What is a network effect?
Explanation: Network effects: direct (phone: more users โ more valuable). Indirect: more users โ more complementary products. Winner-takes-all dynamics. Barrier to entry. e.g., WhatsApp, Visa.
Question 85 of 150
What is the lemon problem?
Explanation: Market for lemons (Akerlof, 1970): buyer can't distinguish good car from lemon. Offers average price. Sellers of good cars withdraw โ only lemons remain โ market collapses. Solution: warranties, reputation, inspection.
Question 86 of 150
What is a monopsony?
Explanation: Monopsony: single buyer. Hires less labour than competitive market, pays lower wage. W < MRP_L (unlike competitive: W = MRP_L). Labour market monopsony: argument for minimum wage.
Question 87 of 150
What is the minimum wage debate in microeconomics?
Explanation: Public choice (Buchanan, Tullock): politicians: maximize votes. Bureaucrats: maximise budgets. Special interest groups: concentrated benefits, dispersed costs โ excessive regulation and spending.
Question 89 of 150
What is regulatory economics?
Explanation: Regulation of natural monopoly: rate-of-return (P=ATC, ensures normal profit). Price cap (RPI-X): price rises max CPI - efficiency factor. Incentive: keep efficiency gains. UK utilities: Ofgem, Ofwat.
Question 90 of 150
What is creative destruction?
Explanation: Creative destruction (Schumpeter, 1942): capitalism constantly disrupts. iPhone destroyed Nokia. Netflix destroyed Blockbuster. Amazon disrupted retail. Dynamic efficiency vs static inefficiency of monopoly.
Question 91 of 150
What is the role of price in market economies?
Explanation: Price signals: high price โ scarce, produce more. Low price โ abundant, switch production. Hayek: price system aggregates dispersed information. No central planner can replicate.
Question 92 of 150
What is the elasticity of demand for labour?
Explanation: Labour demand elasticity: elastic if: output demand elastic, labour is large cost share, capital easily substitutes, long time horizon. Important for: minimum wage impact, union bargaining power.
Question 93 of 150
What is the cobweb model?
Explanation: Cobweb: farmers decide planting based on current price. Harvest next year at different price. If demand inelastic: explosive cycles. If elastic: dampened cycles. Explains agricultural price volatility.
Question 94 of 150
What is the difference between short run and long run in microeconomics?
Explanation: Short run: fixed costs exist, diminishing returns. Long run: all costs variable, economies of scale, entry and exit possible. Very long run: technology can change. Time horizon is industry-specific.
Question 95 of 150
What is the third-degree price discrimination example?
Explanation: Third-degree: airlines (business vs leisure), cinemas (adult vs child), software (student vs professional). Lower price to more elastic group, higher price to less elastic group. Increases total revenue.
Question 96 of 150
What is a contestable market?
Explanation: Contestable market (Baumol): sunk costs low โ hit and run entry possible. Incumbents price competitively to deter entry. Perfect contestability: P = MC even with few firms. Airbus/Boeing: not contestable.
Question 97 of 150
What is the concept of bounded rationality?
Explanation: Bounded rationality: people use heuristics (rules of thumb), satisfice (find 'good enough' solution), have limited information. Behavioural economics builds on this. Nudge theory: choice architecture.
Question 98 of 150
What is the difference between normal and economic profit?
Explanation: Normal profit = zero economic profit = firm covers all explicit and implicit costs. If P=ATC: normal profit. Economic profit > 0: excess above opportunity cost. Long run perfect competition: normal profit only.
Question 99 of 150
What is market concentration?
Explanation: CR4: market share of top 4 firms. HHI (Herfindahl-Hirschman Index): sum of squared market shares. HHI > 2500: highly concentrated. Used by competition regulators for merger review.
Question 100 of 150
What is the Herfindahl-Hirschman Index (HHI)?
Explanation: HHI = ฮฃ(market share %)ยฒ. Monopoly: 10,000. Perfect competition: near 0. US DOJ: < 1,500 unconcentrated, 1,500-2,500 moderate, >2,500 highly concentrated. Used for merger review.
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Question 101 of 150
What is the concept of elasticity and total revenue?
Explanation: TR rule: if |PED|>1 (elastic): PโโTRโ, PโโTRโ. If |PED|<1 (inelastic): PโโTRโ, PโโTRโ. If |PED|=1: TR unchanged by price. Important for pricing strategy.
Question 102 of 150
What is the concept of derived demand?
Explanation: Derived demand: demand for steel โ demand for iron ore and steelworkers. If car demand falls โ less car labour needed. Links product market to factor market.
Question 103 of 150
What is Ramsey pricing?
Explanation: Ramsey pricing: mark up price above MC most for inelastic goods (can't avoid purchase), least for elastic (avoid if marked up). Raises revenue efficiently with least distortion.
Question 104 of 150
What is the Robinson-Patman Act context?
Explanation: Price discrimination regulation: Robinson-Patman (US). Competition law generally prohibits price discrimination that harms competition. SA Competition Act also addresses this.
Question 105 of 150
What is the concept of X-inefficiency?
Explanation: X-inefficiency (Leibenstein): monopolists operate above minimum ATC due to lack of competition. Employees and managers shirk when not under competitive pressure. Another cost of monopoly power.
Question 106 of 150
What is a dominant strategy?
Explanation: Dominant strategy: in prisoner's dilemma, defect is dominant for both (best regardless of other's choice). If both have dominant strategies: dominant strategy equilibrium = Nash equilibrium.
Question 107 of 150
What is the ultimatum game?
Explanation: Ultimatum game: if proposer rational and proposee rational: proposer offers minimum, proposee accepts anything > 0. Empirical result: people reject 'unfair' offers (< 30%). Fairness matters.
What is the concept of long-run equilibrium in perfect competition?
Explanation: Long-run perfect competition: P = MC (allocative efficiency) = min ATC (productive efficiency). Zero economic profit = normal profit. Free entry/exit drives to tour point.
Question 110 of 150
What is the Edgeworth box?
Explanation: Edgeworth box: width = total X, height = total Y. Each point = allocation. Contract curve: all Pareto efficient allocations. Core: stable allocations neither party would leave.
Question 111 of 150
What is general equilibrium?
Explanation: General equilibrium: Walras (1874). All prices adjust simultaneously. Existence, uniqueness, stability. Arrow-Debreu model. Partial equilibrium: hold other markets constant (Marshall).
Question 112 of 150
What is the concept of market failure summary?
Explanation: Market failures: 1) Externalities (polluter doesn't pay full cost). 2) Public goods (free rider). 3) Information asymmetry (lemons, adverse selection). 4) Market power (monopoly). 5) Missing markets.
Question 113 of 150
What is comparative statics in microeconomics?
Explanation: Comparative statics: change one variable (shift supply due to tax), find new equilibrium, compare to original. Direction + magnitude of change in P, Q. Foundation of supply-demand analysis.
Question 114 of 150
What is the concept of elasticity and tax incidence rule?
Explanation: Patents: 20-year monopoly in most countries. Static cost: P > MC, DWL. Dynamic benefit: incentivise R&D, innovation, disclosure of information. Trade-off at heart of IP law.
Question 116 of 150
What is the concept of market power and Lerner index?
Explanation: Lerner Index: inversely related to price elasticity: L = 1/|PED|. Monopoly: maximise profit: P = MC/(1-1/|e|). Higher market power โ higher Lerner index โ greater markup over MC.
Explanation: Signalling (Spence, 2001 Nobel): even if education doesn't increase productivity, high-ability workers invest in costly education as signal. Employers use education as proxy for ability.
Question 119 of 150
What is the difference between price makers and price takers?
Explanation: Price taker: demand curve = perfectly elastic horizontal line at market price. Price maker: faces downward-sloping demand curve. Can charge higher price by reducing quantity.
Question 120 of 150
What is the concept of short-run vs long-run cost structure?
Explanation: SR: AFC + AVC = ATC. FC exists. LR: only variable costs, no fixed costs (all can be adjusted). LR ATC typically U-shaped but flatter than SR. Minimum LRATC = MES.
Question 121 of 150
What is the paradox of value (water-diamond paradox)?
Explanation: Water-diamond paradox (Adam Smith): total utility of water >> diamonds but market price reversed. Resolved by marginal utility: last unit of water (abundant) has low MU; last diamond (scarce) has high MU.
Question 122 of 150
What is a budget line rotation?
Explanation: Budget line rotation: P_x rises โ budget line rotates inward on x-axis. P_x falls โ rotates outward. Income change: parallel shift. Rotation changes relative prices (slope = -P_x/P_y).
Question 123 of 150
What is the concept of consumer optimisation in corner solutions?
Explanation: Corner solution: indifference curve steeper than budget line at zero consumption of one good (MRS > price ratio). Consumer spends all income on other good. Common with very expensive goods.
Question 124 of 150
What is the invisible hand concept?
Explanation: Invisible hand (Smith, 1776): individual pursuit of profit โ allocate resources efficiently. Price signals coordinate. 1st Welfare Theorem: competitive equilibrium is Pareto efficient.
Question 125 of 150
What is the 1st Welfare Theorem?
Explanation: 1st Welfare Theorem: competitive equilibrium = Pareto efficient, if: no externalities, no public goods, no information asymmetry, no market power. Conditions rarely fully met in practice.
Question 126 of 150
What is the 2nd Welfare Theorem?
Explanation: 2nd Welfare Theorem: equity and efficiency can be separated. Redistribute endowments (lump-sum transfers) then let market allocate. In practice: lump-sum taxes not feasible, redistribution distorts.
Question 127 of 150
What is the concept of economic efficiency in production?
Explanation: Production efficiency: technical efficiency (not wasting inputs). Economic efficiency: choose input combination on isocost line tangent to isoquant. Where MRTS = w/r (wage/rental ratio).
Question 128 of 150
What is an isoquant?
Explanation: Isoquant: downward sloping, convex. MRTS (Marginal Rate of Technical Substitution): rate at which K and L can be substituted. Diminishing MRTS: harder to substitute as you use more L.
Question 129 of 150
What is an isocost line?
Explanation: Isocost: slope = -w/r (wage/rental ratio). Cost minimisation: isoquant tangent to isocost. MRTS = w/r. Higher isocost: higher cost. Shift out if TC increases.
Question 130 of 150
What is a perfectly elastic demand curve?
Explanation: Perfectly elastic: |PED| = โ. Horizontal line at market price. Perfect competition: individual firm faces perfectly elastic demand at market price. Cannot charge above market price.
Question 131 of 150
What is a perfectly inelastic demand curve?
Explanation: Perfectly inelastic: |PED| = 0. Vertical demand curve. Examples: insulin for diabetics, antivenom. Tax burden falls entirely on consumers. Quantity doesn't change with price.
Question 132 of 150
What is price stickiness?
Explanation: Price stickiness: menu costs, contracts, coordination failures, kinked demand. New Keynesian economics: sticky prices/wages explain why recessions persist.
Question 133 of 150
What is behavioural economics?
Explanation: Behavioural economics: Kahneman, Thaler, Sunstein. Key findings: anchoring, framing, loss aversion, status quo bias, hyperbolic discounting, overconfidence. Nudge theory: design choices to improve outcomes.
Question 134 of 150
What is a dominant firm model?
Explanation: Dominant firm: large firm faces demand = market demand minus fringe supply. Sets MR=MC. Fringe: price takers at dominant firm's price. Dominant firm share erodes as fringe grows.
Question 135 of 150
What is the concept of rent-seeking?
Explanation: Rent-seeking (Tullock, Krueger): firms spend on lobbying, legal battles, creating barriers to entry. Cost = social waste. DWL of monopoly understates true cost if entry barriers are rent-seeking.
Question 136 of 150
What is countervailing power?
Explanation: Countervailing power (Galbraith): large retailers (Walmart) bargain down prices from large suppliers. Large employer vs strong union. May achieve competitive price without government intervention.
Question 137 of 150
What is the concept of market equilibrium restoration?
Explanation: Intertemporal choice: borrow to consume more today, save to consume more in future. Budget constraint: Cโ + Cโ/(1+r) = Yโ + Yโ/(1+r). Higher r: saving more attractive.
Question 139 of 150
What is the Slutsky equation?
Explanation: Slutsky: โx/โp = substitution effect + income effect. Compensated (Hicksian) demand: only substitution effect (hold utility constant). Uncompensated (Marshallian): both effects.
Question 140 of 150
What is the tragedy of the commons?
Explanation: Tragedy of commons (Hardin, 1968): shared grazing land โ each farmer adds cattle (benefit to self, cost shared). Optimal for individual, disastrous collectively. Solutions: property rights (Coase), regulation, Ostrom's community management.
Question 141 of 150
What is the concept of deadweight loss from a tax with elasticities?
Explanation: DWL from tax: DWL = ยฝtยฒร(PES ร PED)/(PES+PED)ร(Q/P). More elastic supply and demand โ larger DWL. Optimal taxation: tax inelastic goods more (Ramsey rule).
Question 142 of 150
What is market segmentation in price discrimination?
Explanation: Market segmentation: conditions required: 1) Ability to identify different demand elasticities. 2) Ability to prevent resale between segments (arbitrage). 3) Market power to set different prices.
Question 143 of 150
What is the shutdown price?
Explanation: Shutdown price = min AVC. If P < min AVC: TR < TVC โ shut down (reduce losses to just FC). If P > min AVC: produce (TR > TVC โ covers some FC). In LR: exit if P < ATC.
Question 144 of 150
What is price leadership in oligopoly?
Explanation: Price leadership: reduces price war risk. Barometric: most efficient firm leads. Dominant firm: largest firm leads. Signal price changes through public announcements.
Question 145 of 150
What is the concept of short-run supply curve?
Explanation: Competitive firm supply: portion of MC curve above min AVC. Below min AVC: shut down. Supply curve = MC curve above tour point. Market supply = horizontal sum of all firm supply curves.
Question 146 of 150
What is comparative advantage in production?
Explanation: Comparative advantage: even if one firm (or country) is better at everything, specialise in what has lower opportunity cost. Both gain from trade. PPF and opportunity cost are key.
Question 147 of 150
What is the concept of price dispersion?
Explanation: Price dispersion: markets with high search costs: wide price dispersion (sellers exploit search effort). Online markets: reduced search costs โ less dispersion. Information reduces price dispersion.
Question 148 of 150
What is the concept of contestability and natural monopoly regulation?
Explanation: Contestability and natural monopoly: if a natural monopoly market is contestable (low sunk costs), hit-and-run entry possible โ incumbent prices competitively. Most natural monopolies not contestable (high infrastructure sunk costs).
Question 149 of 150
What is the difference between a movement along and a shift of the demand curve?
Explanation: Movement along demand curve: only caused by price change (ceteris paribus). Shift of demand curve: caused by non-price factors (income, substitutes/complements prices, tastes, expectations, population).
Question 150 of 150
What is the concept of rent as applied to factors of production?
Explanation: Factor rent: inelastic supply โ large rent component. Footballer wages: mostly rent (would play for much less). Land: all rent (zero opportunity cost). Taxing rent: efficient (doesn't distort behaviour).
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The law of demand states that, all else equal, as the price of a good increases, quantity demanded decreases. The demand curve slopes downward. A change in price causes movement along the curve; a change in non-price factors (income, preferences, substitute prices) shifts the entire curve.
Price elasticity of demand (PED) measures how responsive quantity demanded is to a price change. PED = % change in Qd รท % change in Price. |PED| > 1 is elastic (luxury goods); |PED| < 1 is inelastic (necessities). Elastic goods see revenue fall when price rises.
The four market structures are: Perfect Competition (many sellers, identical products, price takers), Monopolistic Competition (many sellers, differentiated products), Oligopoly (few sellers, interdependent), and Monopoly (one seller, price maker, barriers to entry).
A negative externality occurs when a transaction imposes costs on third parties not involved in it (e.g., pollution). The market overproduces relative to the socially optimal level, creating a deadweight loss. Government responses include taxes (Pigouvian tax), regulation, and property rights assignment.
Consumer surplus is the difference between what consumers are willing to pay and what they actually pay. It is represented by the area below the demand curve and above the market price. A price increase reduces consumer surplus; a price decrease increases it.
The law of diminishing marginal utility states that as a person consumes more of a good, the additional satisfaction (marginal utility) from each additional unit decreases. Tour explains why demand curves slope downward โ consumers value the first unit more than subsequent ones.
In the short run, at least one factor of production is fixed (usually capital). Firms can change output by varying labour. In the long run, all factors are variable and firms can enter or exit the market. In perfect competition, long-run equilibrium results in zero economic profit.
A public good is non-excludable (you cannot prevent people from consuming it) and non-rival (one person's consumption does not reduce availability to others). Examples: national defence, public fireworks. Public goods are underprovided by markets due to the free rider problem.
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