Econ 2023 1st Edition Lecture 10Outline of Last Lecture I. Trade.II. Absolute v comparative advantage.a. Law of comparative advantageIII. Gains from trade.IV. Terms of trade.V. Barriers of trade.Outline of Current Lecture II. Consumers Choicea. Demand: its equation and how to solve. III. UtilityIV. Effect of Price Change. V. Backwards bending labor supply curveCurrent LectureChapter 6: Consumers Choice:1. Demand: Relationship between Price and Quantity Demanded. (Ceteris Paribus) There relationship is seen as inverse: as price goes up, quantity demanded goes down- as price goes down quantity demanded goes up. Preferences: income.2. B (purchasing power) = (P1)(Q1)+ (P2)(P2)I. Income-flowii. Wealth- stockb. Solving:i. B= (P1)(Q1)+(P2)(Q2)ii. (P1)(Q1)=B-(P2)(Q2)iii. Divide both sides by P1 =iv. Q1=B/P1-P2/P1(Q2)  Look at last section which translates to..v. (P2)(Q2)/P1.1. This is a straight line equation: y (vertical: Q1=) = intercept (B/P1) + (negative) slope (P2/P1) times x (Q2)These notes represent a detailed interpretation of the professor’s lecture. GradeBuddy is best used as a supplement to your own notes, not as a substitute.2. The trade off on the BC is given by relative (slope= -P2/P1)  market trade-off3. Preferences: a. Desirability (how much you need or want something.) 4. Utility: satisfaction, happiness, well-being, enjoyment. a. Total utility--"The overall amount of satisfaction achieved by a consumer due to the purchase and use of a particular item or service." It is the aggregation of the utility received from each unit of a good consumed.b. Marginal utility--"In economics, the marginal utility of a good or service is the gain from an increase, or loss from a decrease, in the consumption of that good or service." I.e., marginal utility (MU) is the change in total utility (TU) associated with a change in the quantity (Q) of a good consumed--MU = ΔTU/ΔQ.i. Law of Diminishing Marginal Utility: (beyond same point) additional units of consumption give less additional utility. "A law of economics stating that as a person increases consumption of a product - while keeping consumption of otherproducts constant - there is a decline in the marginal utility that person derives from consuming each additional unit of that product."ii. Goal of consumers: maximize utility.c. Constraint: B= (P1)(Q1) + (P2)(Q2)  income (B) prices of goods.i. Budget constraint--"A budget constraint represents all the combinations of goods and services that a consumer may purchase given current prices within his or her given income."5. The effect of a price change on quantity demanded--As the price of a good are service changes, there are two reason why the quantity demanded changes in response. One reason is the substitution effect, the second is the income effect. In general, these two effects reinforce each other and together explain why demand curves are downward sloping.a. Substitution effect--When the price of a good changes, it becomes either relatively cheaper (if its price decreases) or relatively more expensive (if its price increases) compared to alternative (or substitute) goods that are available to the demander. If the good's price falls, it becomes a better value and some people will but more of it and less of something else (i.e., they substitute the relatively cheaper good whose price has fallen for other goods whose prices have not changed). If the good's price rises, it becomes a worse value--some people will therefore switch to other goods whose prices have not changed (i.e., they substitute away from the good that is now more expensive to other goods that are relatively cheaper).b. Income effect--If the price of a good changes, the purchasing power of demanders changes (i.e., their choice set changes because the price change causes the budgetconstraint to change). Though a demander's actual income has not change, the change in purchasing power associated with price changes has an effect similar to a change in income.i. The Economist offers the following example:1. "When the price of petrol falls people buy more of it. There are two reasons.2. "The income effect: cheaper petrol means that real purchasing power rises, so consumers have more to spend on everything, including petrol.3. "The substitution effect: petrol has become cheaper relative to everything else, so people switch some of their consumption out of goodsthat are now relatively more expensive and buy more petrol instead."6. Backward-bending labor supply curve--"A labor supply curve that is positively-sloped for relatively small quantities of labor and negatively-sloped for relatively large quantities of labor. In other words, workers supply larger quantities of labor in response to a higher wage when the wage is relatively low. However, when the wage reaches a relatively high level, further increases in the wage entice workers to reduce the quantity supplied. The supply curve thus bends back on itself. The reason for the negatively-sloped, backward-bending segment rests with the tradeoff between labor and leisure. Workers decide to "spend" a portion of their higher wage "buying" more leisure time, and thus working less. The end result is that the higher wage decreases the quantity of labor supplied."7. Behavioral economics--"Behavioral economics is a branch of economics that incorporates cognitive and emotional factors that have been documented in psychology, into