Exam 2 Study Guide Chapter 4 The labor market Price for labor is called the wage W Quantity of labor is called employment E o Works like the market for goods only with a different name for price and quantity Labor demand people o Firms demand labor o Downward sloping because as wage decreases firms want to employ more o An increase in the demand for a product will lead to an increase in the demand for the resources used to produce it o Increase shift right decrease shift left Labor Supply o Workers supply labor o Upward sloping because as wage increases people will want to work more o An increase in the price of a resource will increase the cost of producing products that use it shifting their supply curve to the left o Increase right decrease left There is a close relationship between the demand for products and the demand for resources used to make those products Price controls in the market equilibrium Price floors o A price floor establishes a minimum legal price for the good or service Example minimum wage excess labor supply unemployment o A price floor above equilibrium price creates a surplus o A price floor below equilibrium price does nothing o Price ceilings o A price ceiling establishes a maximum price that sellers are legally permitted to charge Example rent control o A price ceiling below market equilibrium price creates a shortage o A price ceiling above market equilibrium price does nothing Impact tax on a product will cause the supply curve to shift left by the amount of the tax A tax raises the price the buyers pay reduces the amount the sellers receive reduces the quantity sold increases government revenue creates deadweight loss The loss to society that results from the loss of gains to trades that do not occur because the tax was imposed Tax Incidence The way the burden of a tax is distributed among economic units also known as the tax burden Tax incidence does depend on elasticity The burden of the tax will fall on those who are relatively inelastic Deadweight loss will be lower if taxes are placed on goods that are relatively inelastic Tax on sellers Tax on buyers Understand that the burden of the tax does not depend on whom the tax is imposed but it does depend on elasticity Whoever is relatively more inelastic will bear the higher burden of the tax Elasticity Average tax rate ATR the percentage of income paid in taxes ATR tax liability taxable income Marginal tax rate MTR additional taxable income Important in person decision making MTR change in tax liability change in taxable income the additional tax liability a person faces divided by his or her Tax system possibilities Progressive Regressive tax Proportional tax average tax rate rises with income average tax rate falls with income average tax rate is the same at all income levels The Laffer Curve a curve illustrating the relationship between the tax rate and tax revenue Higher tax rates will not always lead to more tax revenue As tax rates increase from low levels tax revenues will also increase even though the tax base is shrinking As rates continue to increase at some point the shrinkage in the tax base will dominate and the higher rates will lead to a reduction in tax revenues The Laffer Curve shows that tax revenues are low for both high and low tax rates Subsidies A subsidy is a payment to either the buyer or seller of a good usually on a per unit basis are costly o Ex subsidizing home gyms benefits of a subsidy the benefits of a subsidy When supply is highly inelastic relative to demand sellers will derive most of the When demand is highly inelastic relative to supply the buyers will reap most of Chapter 5 To be economically efficient 1 All actions generating more benefits then costs should be undertaken 2 No actions generating more costs then benefits should be undertaken Economists use the concept of efficiency to judge actions because efficient use of resources implies the maximum value of output from the resource base Role of the Government Protect individuals and their property rights Provide goods that cannot be easily provided by the market overcome market failure Market Failure price Lack of competition with no completion a firm can hold back production and raise o Role of government Refrain from activities that reduce competition licenses price controls Antitrust legislation Sherman antitrust act Clayton act Externalities third parties the effects of an activity that influence the well being of non consenting o Negative externality Producer with produce too much Role of the gov t is to tax or regulate negative externalities producer gains the benefit everybody bears the cost Ex pollution loud music o Positive externality producer bears the cost everybody gain the benefit Producers will produce less than society wants Gov t role is to subsidize positive externalities Ex education vaccinations Public goods o Non excludable o Non rival in consumption making the good available to one consumer does not it is impossible or costly to exclude nonpaying customers form reduce its availability to others receiving the good of gov t is to force people to pay through taxes Private market can provide a public good by tying it to a private good radio broadcast and advertising a person who receives the benefit of a good without paying for it Role o Free rider Good will become under supplied Lack of information o When purchasing a good consumers may not have the information necessary to make an informed choice Role of gov t is to provide info through regulations Market might be able to provide info also Chapter 7 Fundamentals of consumer choice Limited income necessitates choice Consumers make decisions purposefully One good can be substituted for another Consumers must make decisions without perfect information The law of diminishing marginal utility applies to consumption o Marginal utility the benefit derived from consuming an additional unit of the good Marginal benefit the maximum price a consumer will be willing to pay for an additional unit of the product height of the demand curve falls as you move down the demand curve o Law of Diminishing Marginal Utility as the consumption of a product increases the marginal utility derived from additional consumption will eventually decline Consumer Equilibrium o Consumers will maximize utility by ensuring that the last dollar spent on each commodity yields an equal degree of marginal utility MUA PA MUB PB MUN PN o Consumers maximize utility by spending
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