Economics 20A Final Study Guide Chapter 7 Consumers Producers and the Efficiency of Markets Consumer Surplus economic well being o Welfare Economics The study of how the allocation of resources affects o Willingness to Pay The maximum amount that a buyer will pay for a good The demand curve reflects buyers willingness to pay so we can also use it to measure consumer surplus o Consumer Surplus The amount a buyer is willing to pay for a good minus the amount the buyer actually pays for it Consumer surplus measures the benefit buyers receive from participating Measures the benefit the buyers receive from a good as the buyers in a market themselves perceive it o Marginal Buyer The buyer who would leave the market first if the price were o The area below the demand curve and above the price measures the consumer any higher surplus in a market Producer Surplus o Cost The value of everything a seller must give up to produce a good o Producer Surplus The amount a seller is paid for a good minus the seller s cost Just as consumer surplus is closely related to the demand curve producer surplus is closely related to the supply curve o Marginal Seller The seller who would leave the market first if the price were of providing it any lower o The area below the price and above the supply curve measures the producer surplus in a market Market Efficiency o Total Surplus The sum of consumer surplus and producer surplus o Efficiency The property of a resource allocation of maximizing the total surplus o Equality The property of distributing economic prosperity uniformly among the received by all members of society members of society 1 Free markets allocate the supply of goods to the buyers who value them most highly as measured by their willingness to pay 2 Free markets allocate the demand for goods to the sellers who can produce them at 3 Free markets produce the quantity of goods that maximizes the sum of consumer and producer surplus o Market Power The ability of a single buyer or seller to have a influence market the lowest cost prices o Externalities Economic side effects or by products that affect an uninvolved third party can be negative or positive o Market Failure The inability of some unregulated markets to allocate resources Economics 20A Final Study Guide efficiently Chapter 8 The Costs of Taxation The Deadweight Loss of Taxation such as a tax government tax o A tax on a good places a wedge between the price the buyers pay and the price the sellers receive o The tax revenue that the government collects equals T x Q the size of the tax T times the quantity sold Q represented by the rectangle between the supply and demand curves o Deadweight Loss The fall in total surplus that results from a market distortion o The losses to buyers and sellers from a tax exceed the revenue raised by the o Taxes cause deadweight losses because they prevent buyers and sellers from realizing some of the gains from trade The Determinants of the Deadweight Loss o The greater elasticities of supply and demand the greater the deadweight loss of a o Marginal Tax Rate The tax on the last dollar of earnings o Underground Economy Illegal economic activity such as the drug trade or working at jobs that pay under the table to evade taxes Deadweight Loss and Tax Revenue as Taxes Vary o The deadweight loss is the reduction in total surplus due to the tax o Laffer Curve This curve shows the relationship between tax size and tax revenue as it first increases then decreases o Supply Side Economics The views of Laffer and Reagan where the cut in tax rates encourages people to increase the quantity of labor they supply o Taxes are costly to market participants not only because taxes transfer resources from these participants to the government but also because they alter incentives and distort market outcomes Chapter 13 The Costs of Production Industrial Organization The study of how firms decisions about prices and quantities depend on the market conditions they face What Are Costs o Total Revenue The amount a firm receives for the sale of its output it first o Total Cost The market value of the inputs a firm uses in production it first increases then decreases increases then decreases TC o Profit Total revenue minus total cost o The goal of firms is to maximize profit o Opportunity Cost The benefits you could have received by taking an alternative action o Explicit Costs Input costs that require an outlay of money by the firm Economics 20A Final Study Guide o Implicit Costs Input costs that do not require an outlay of money by the firm o Economists include all opportunity costs when analyzing a firm whereas accountants measure only explicit costs o Economic Profit Total revenue minus total cost including both explicit and implicit costs o Accounting Profit Total revenue minus total explicit cost o Economic profit is smaller than accounting profit Production and Costs o Production Function The relationship between quantity of inputs usedto make a good and the quantity of output of that good o Marginal Product The increase in output that arises from an additional unit of input o Diminishing Marginal Product The property whereby the marginal product of an input declines as the quantity of the input increases The Various Measures of Cost pricing and hiring o Costs are critically important to many business decisions including production o Fixed Costs Costs that do not vary with the quantity of output produced FC o Variable Costs Costs that vary with the quantity of output produced VC o Average Total Cost Total cost divided by the quantity of output TC Q Average total cost tells us the cost of a typical unit of output if total cost is divided evenly over all the units produced o Average Fixed Cost Fixed cost divided by the quantity of output FC Q o Average Variable Cost Variable cost divided by the quantity of output VC Q o Marginal Cost The increase in total cost that arises from an extra unit of production MC TC Q an additional unit of output Marginal cost tells us the increase in total cost that arises from producing o Whenever marginal cost is less than average total cost average total cost is falling o Whenever marginal cost is greater than average total cost average total cost is rising o Efficient Scale The quantity of output that minimizes average total cost o The marginal cost curve crosses the average total cost curve at its minimum Costs in the Short Run and in the Long Run o Because many decisions are fixed in the