📚 Microeconomics Interactive Study Guide

Answer: The comparison of economic outcomes and equilibria before and after changing one or more of the underlying parameters of the model. Economic policy analysis often involves thinking through comparative statics.

Answer: "Change in quantity demanded" refers to movement along the demand curve due to price changes (increase in quantity demanded from price decrease OR decrease in quantity demanded from price increase). "Change in demand" refers to situations where the quantity demanded changes holding price constant, resulting in a shift of the entire demand curve.

Answer: Factors that affect quantity demanded while holding price constant, such as changes in consumer preferences, income, prices of related goods, or expectations. Example: Scientists finding that coffee drinkers have higher life expectancy increases demand for coffee.

Answer: (1) Rightward shift, (2) Outward shift, (3) Increase in demand. All three are equivalent. It means more quantity demanded at each price, or consumers are willing to pay more at each quantity.

Answer: A measure of how responsive quantity demanded or supplied is to changes in price or other factors. It helps predict the magnitude of changes in equilibrium when parameters shift.

Answer: The difference between a consumer's willingness to pay for a good or service and the price they actually pay for it. Formula: CS_i = w_i - p, where w_i is willingness to pay and p is market price.

Answer: With a linear demand curve, consumer surplus is the area of a triangle above the market price and below the demand curve. Formula: (1/2) × (Pchoke - P*) × Q*

Answer: The difference between the price producers actually receive for their goods or services and the cost of producing them. Formula: PS_j = p - c_j, where p is market price and c_j is marginal cost.

Answer: With a linear supply curve, producer surplus is the area of a triangle below the market price and above the supply curve. Formula: (1/2) × (P* - Pchoke) × Q*

Answer: The sum of consumer and producer surplus in a market, or alternatively, the difference between gross benefits to consumers and total costs to producers. It measures the total value created in a market.

Answer: Yes, given the assumptions laid out. The market produces the surplus-maximizing quantity. Producing less results in underproduction (lost surplus from not producing goods where benefit > cost). Producing more results in overproduction (wastefully producing goods where cost > benefit).

Answer: A cost or benefit that affects a party not directly involved in a market transaction.

Answer: A cost borne by a party that is not involved in the market transaction. Examples: pollution from production (nearby residents face costs of polluted air/water), smoking (secondhand smoke affects nearby people).

Answer: (1) Enforceable - easy to administer, unintrusive, perceived as legitimate. (2) Fair - burden should fall on those with ability to pay. (3) Minimal excess burden - should not discourage activity excessively, causing value loss without revenue raised.

Answer: The tax increases the marginal cost of producing one more unit, shifting the supply curve upward (inward) by the amount of the tax. The new supply curve is $1 higher at each quantity if the tax is $1.

Answer: Quantity decreases from Q* to Q', price increases for buyers from P* to P_D, and price decreases for sellers from P* to P_S (sellers receive P_D - tax).

Answer: Statutory incidence measures who literally sends money to the government. Economic incidence measures the real effect on resources - how much producers/consumers lose out as a result of taxation, taking into account tax payments and changes in prices.

Answer: No! The side of the market taxed (statutory incidence) is irrelevant. A $1 tax on consumers and a $1 tax on sellers have the exact same effect on prices and quantity. Both sides may pay eventually through price adjustments.

Answer: Use four equations with four unknowns: (1) Supply: Q_s = function of P_s, (2) Demand: Q_D = function of P_D, (3) Taxation: P_D = P_s + t, (4) Equilibrium: Q_s = Q_D

Answer: Tax incidence measures which party bears the burden of a tax. More inelastic parties pay more of the tax. If demand is more inelastic than supply, buyers bear more of the tax burden. If supply is more inelastic than demand, sellers bear more of the burden.

Answer: The loss in total surplus that occurs because the tax discourages mutually beneficial transactions. It represents the value lost from reduced market activity that is not captured by anyone - not consumers, producers, or government.

Answer: A payment made by the government to a buyer or seller of a good or service. It is the opposite of a tax. The price paid by the buyer is lower than the price the seller receives: P_D = P_S - s.

Answer: Yes! Although consumers and producers benefit from the subsidy, they don't benefit enough to offset its cost in a utilitarian sense. Subsidies encourage overproduction beyond the efficient quantity.

Answer: The subsidy effectively increases consumers' willingness to pay, shifting the demand curve upward (outward) by the amount of the subsidy.

Answer: Quantity increases from Q* to Q', price decreases for buyers from P* to P_D, and price increases for sellers from P* to P_S (sellers receive P_D + subsidy).

Answer: No! A $1 subsidy on buyers and a $1 subsidy on sellers have the exact same effect on prices and quantity. A subsidy on one side of the market will eventually benefit both sides.

Answer: The measure of who benefits from a subsidy. The incidence on consumers is the reduction in price (s_d = P* - P_D). The incidence on producers is the increase in price (s_s = P_S - P*). More inelastic parties receive more of the subsidy benefit.

Answer: If demand is elastic (flatter), the bulk of the subsidy falls on sellers. If supply is elastic (flatter), the bulk of the subsidy falls on buyers. More inelastic parties receive more subsidies.

Answer: The gap between the price buyers pay (P_D) and the price sellers receive (P_S). For taxes: t = P_D - P_S. For subsidies: s = P_S - P_D.

Answer: Consumer surplus increases (buyers pay lower prices), producer surplus increases (sellers receive higher prices), but government cost equals s × Q' (the subsidy per unit times quantity). Total surplus change = CS increase + PS increase - Government cost. The net result is negative (deadweight loss).

Answer: A benefit that affects a party not directly involved in a market transaction. Examples: education (benefits society beyond the individual), vaccination (protects others from disease), research and development (creates knowledge spillovers).

Answer: A subsidy designed to correct a positive externality by encouraging production/consumption to the socially optimal level. Named after economist Arthur Pigou.