Micro Economics :A Primer

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About book

Micro Economics explains how people interact economically, understanding the relationship between people, supply and demand, markets, and efficiency. We will do this by first understanding the nature of the basics concepts of microeconomics, then proceeding to how these apply to specific types of situations. Microeconomic theory aims to model economic activities as the interaction of individual economic agents pursuing their private interests. Microeconomics is the branch of economics that focuses on the choices made by individual decision-making units in the economy – typically consumers and firms, and the impacts those choices have on individual markets. The chapters themselves are written using a “modular” format. In particular, chapters generally consist of three main content sections that break down a particular topic into manageable parts. Each content section contains not only an exposition of the material at hand but also learning objectives, summaries, examples, and problems. Our goal is to encourage active learning by including many examples and many problems of different types. The integrating theme for microeconomics is the marginal decision rule, a simple approach to choices that maximize the value of some objective. The well-known theoretical result is presented methodically and consistently as it is in this text.

CONTENTS

 

 

 

Acknowledgment

 

Preface

 

vi

 

vii

 

 

1. SCARCITY, CHOICE AND COST

 

1.1 Economics

 

1.2 Micro Economics

 

1.3 Scarcity, Choice and Cost

1-11

 

 

1.3.1 Scarcity and Choice

 

1.3.2 Opportunity Cost

 

1.4 Production Possibility Curve

 

1.4.1 Definition

 

1.4.2 Assumptions

 

1.4.3 Production Possibility Schedule

 

1.4.4 Attainable and Unattainable Combinations of Output on PPC

 

1.4.5 Utilization of Resources

 

1.4.6 Slope of Production Possibility Curve

 

1.4.7 Scarcity, Choice and Opportunity Cost

 

1.4.8 Shift in PPC

 

1.4.9 Production Possibility Curve and the Central problems

 

1.5 Circular Flow of Income and Expenditure

 

1.5.1	Market Economy
1.5.2	Invisible Hand
1.5.3	Planned Economy
1.5.4	Mixed Economy

 

2.   DEMAND AND SUPPLY

12-46

 

2.1 Introduction

 

2.2 Want or Desire and Demand

 

2.3 Demand Schedule and Demand Curve

 

2.3.1 Individual Demand Schedule

 

2.3.1.1 Graphical Representation of Demand Schedule

 

2.3.1.2 Market Demand Schedule

 

2.4 Determinants of Demand

 

2.5 How Do Different Determinants Affect Demand?

 

(x)

 

2.6 Law of Demand

 

2.7 Why Demand Curve Slopes Downward?

 

2.8 Exception to Law of Demand

 

2.9 Change in Quantity Demanded or Movement Along the Demand Curve

 

2.10 Change in Demand or Shift in the Demand Curve

 

2.11 Difference between Extension of Demand and Increase in Demand

 

2.12 Difference between Contraction of Demand and Decrease in Demand

 

2.13 Movement along the Demand Curve versus Shift in Demand Curve

 

2.14 Supply

 

2.14.1 Supply and Stock

 

2.15 Supply Schedule and Supply Curve

 

2.15.1 Individual’s Supply Schedule

 

2.16 Determinants of Supply

 

2.17 How Do Different Determinants Affect Supply?

 

2.18 Law of Supply

 

2.19 Exception to the Law of Supply

 

2.20 Change in Quantity Supplied or Movement along the Supply Curve

 

2.20.1 Extension of Supply

 

2.20.2 Contraction of Supply

 

2.20.3 Extension versus Contraction of Supply

 

2.21 Changes in Supply or Shift in Supply Curve

 

2.21.1 Decrease in Supply

 

2.21.2 Increase in Supply versus Decrease in Supply

 

2.22 Difference between Extension of Supply and Increase in Supply

 

2.23 Difference between Contraction of Supply and Decrease in Supply

 

2.24 Movement along Supply Curve versus Shift in Supply Curve

 

2.25 Determination of Price and Market Equilibrium

 

2.26 Change in equilibrium

 

2.26.1 Effect of Change in Demand on Equilibrium

 

2.26.3 Simultaneous Change in Demand and Supply

 

3.   ELASTICITY OF DEMAND AND SUPPLY		47-81
3.1	Introduction
3.2	Elasticity of Demand
3.3	Price Elasticity of Demand
3.5 Some Theorems on Elasticity of Demand
3.6	The Slope of a Demand Curve is Not the Measure of Elasticity of Demand
3.7	Income Elasticity of Demand
3.8	Cross Elasticity of Demand
3.9	Importance of Elasticity of Demand

 

3. 10 Determinants of Elasticity of Supply

 

(xi)

 

4.   ALLOCATIVE EFFICIENCY OF PERFECT COMPETITION				82-96
	4.1	Introduction
	4.2	Maximum Price Legislation or Price Ceiling
		4.2.1	Measures to tackle Shortage or Excess Demand:
		4.2.2	Effects of Price Ceiling
		4.2.3	Rent Control
			4.2.3.1 Effects of Rent Control
	4.3	Minimum Price Legislation or Price Flooring
		4.3.1	Unbinding Price Flooring
		4.3.2	Binding Price Flooring:
		4.3.3	Effects of Price Flooring
		4.3.4	Applications of Price Flooring:
	4.4	Tax
		4.4.1	How Taxes on Sellers Affect the Market
		4.4.2	How Taxes on Buyers Affect the Market:
	4.5	Elasticity and Tax Incidence
		4.5.1	How Elasticity Affects Incidence of Taxation
	4.6 Application of the Theory of Demand and Supply to Agricultural Sector
		4.6.1	Fluctuations in Prices and Income of the Farmers
		4.6.2 Agricultural Stabilization Programs
5.	CONSUMER THEORY: CARDINAL UTILITY ANALYSIS			97-110
	5.1	Introduction
	5.2	Total Utility and Marginal Utility
	5.3	Relation between Total Utility and Marginal Utility
		5.3.1	Graphical relationship between TU and MU Curves
	5.4	Cardinal Utility Theory (or Marginal Utility Theory)
		5.4.1	Law of Cardinal Utility Analysis
		5.4.2	Law of Diminishing Marginal Utility (or Gossen’s First Law)
		5.4.3	Law of Equi-Marginal Utility or Consumer Equilibrium
6.	INDIFFERENCE CURVE ANALYSIS			111-142
	6.1	Introduction
	6.2 Assumptions of the theory
	6.3	Indifference Curve
		6.3.1	Definition
		6.3.2	Indifference Schedule
		6.3.3	Graphical Representation of Indifference Schedule-Indifference Curve
		6.3.4	Indifference Map
		6.3.5	Properties of Indifference Curve
	6.4	Marginal Rate of Substitution
		6.4.1	Decreasing Marginal Rate of Substitution
		6.4.2	Constant Marginal Rate of Substitution
		6.4.3	Increasing Marginal Rate of Substitution

		(xii)
6.5	Some Exceptional Shapes of an Indifference Curve
	6.5.1	Perfect Substitutes(Straight Line Indifference Curve)
	6.5.2	Perfect Complements (L-Shaped or Right Angled Indifference Curve)
	6.5.3	Bad Goods
	6.5.4	Neutral Goods
	6.5.5	U-shaped Indifference Curve (Goods with Negative utility)
6.6	Budget Line
	6.6.1	Budget Space
	6.6.2	Slope of the budget line
	6.6.3	Shift in Budget Line
6.7 Consumer Equilibrium
	6.7.1	Consumer’s Equilibrium- Corner Solution
6.8 Income Effect: Income Consumption Curve (ICC)
6.9	Engel’s Curve
	6.9.1	Engel’s Curve for an Inferior Good
6.10 Price Effect: Price Consumption Curve
	6.10.1 Price Consumption Curve in Case of Giffin Goods
	6.10.2 Horizontal Shaped Price Consumption Curve
6.11 Derivation of Demand Curve through Price Consumption Curve
	6.11.1 Different shapes of Demand Curves
	6.11.2 Demand curve in Case of Giffin Goods
6.12 Difference between Demand Curve and Price Consumption Curve
6.13 Price Effect
	6.13.1 Substitution Effect
	6.13.2 Income Effect
6.14 Separation of Price Effect into Substitution Effect and Income Effect
	6.14.1 Hicksian Approach
	6.14.2 Slutsky’s Approach:
7.   THEORY OF PRODUCTION			143-163
7.1	Introduction
7.2	Production Function
7.3	Factor of production
7.4 Time Period
	7.4.1	Short-run versus Long-run Production Function
7.5	Concept of product
	7.5.1	Relationship between TP, AP and MP of Labor
7.6	Law of production
	7.6.1	Return to a Factor: Law of Variable Proportions or Diminishing Returns:
7.6.2 Assumptions
7.6.3 Three stages of production:
7.6.4 Stage of Rational Decision
7.7	Causes behind Return to a Factor
7.8	Production Function with Two Variable Inputs

(xiii)

 

7.9 Isoquant

 

7.9.1 Assumption of the Isoquant Analysis

 

7.9.2 Isoquant Schedule

 

7.9.3 Isoquant Map

 

7.9.4 Slope of an Isoquant Curve: Marginal Rate of Technical Substitution

 

7.9.5 Properties of an Isoquant Curve

 

7.10 Iso-Cost Line

 

7.10.1 Isocost Schedule

 

7.10.2 Equation of an Isocost Line

 

7.10.3 Shift in Isocost Line

 

7.11 Producer’s Equilibrium: Least Cost Combination of Factors

 

7.12 Principle of Factor Substitution

 

7.13 Return to the Scale

 

7.13.1 Three situations of Return to the Scale

 

7.14 Sources of Increasing Return to Scale or Economies of Scale

 

7.14.1 Internal Economies

 

7.14.2 External Economies

 

7.15	Sources of Decreasing Returns to Scale or Diseconomies of scale
7.16	Sources of Constant Return to Scale or Balance between Economies and Diseconomies
8.   THEORY OF COSTS			164-182
8.1 Introduction
8.2 Cost Function
	8.2.1	Long-run Cost Function
	8.2.2	Short-run Cost Function

 

8.3 Concept of Cost

 

8.4 Short-run Cost Curves

 

8.5 Short-run Total Cost (TC)

 

8.5.1 Total Factor Cost

 

8.5.2 Total Variable Cost (TVC)

 

8.5.3 Total Cost (TC)

 

8.6 Short-run Average Total Cost (AC)

 

8.6.1 Average Fixed Cost (AFC)

 

8.6.2 Average Variable Cost (AVC)

 

8.6.3 Average Total Cost (ATC)

 

8.7 Short-run Marginal Cost (SMC)

 

8.8 Relationship between Average cost and Marginal Cost

 

8.9 Relationship between MC and AVC

 

8.10 Relationship between Short-run Cost Curves

 

8.11 Relationship between Cost and Productivity

 

8.12 Theory of Long-run Cost

 

 

8.12.1 Long-run Total Cost and Expansion Path

 

	(xiv)
8.13 Long-run Average Cost
8.13.1	The Relationship between Short-run and Long-run Cost
8.13.2	Derivation of Long-run Average Cost
8.13.3	Reason behind U-shape of the Long-run Average cost curve
8.13.4	Long-run Average Cost Curve in Case of Constant Returns to Scale
8.13.5	Optimum Size of a Firm and Minimum Efficient Scale
8.13.6	Shift in Cost Curves

 

8.14 Long-run Marginal Cost

 

8.15 Relationship between LAC and LMC Curve

 

9.	CONCEPT OF REVENUE	183-193
	9.1 Introduction
	9.2 Total Revenue (TR)
	9.3 Average Revenue (AR)
	9.4 Marginal Revenue (MR)
	9.5 Average Revenue and Marginal Revenue under Perfect Competition
	9.6 Average Revenue and Marginal Revenue under Imperfect Competition
	9.7 Relationship between Average Revenue and Marginal Revenue Curves
	9.7.1 AR and MR Curves are Horizontal Straight Line Parallel to X- axis
	9.7.2 AR and MR Curves are Downward Sloping Straight Line
	9.7.3 When AR and MR Curves are Both Convex to the Origin
	9.7.4 When AR and MR Curves are Both Concave to the Origin
	9.7.5 Average Revenue Marginal Revenue and price Elasticity of Demand
	9.8 Total Revenue MR, AR Curves and Price Elasticity of Demand
10.	PERFECT COMPETITION	194-206
	10.1 Introduction
	10.2 Perfect Competition
	10.2.1 Pure Competition versus Perfect Competition
	10.3 The Firm’s Demand Curve under Perfect Competition
	10.4 Short-run Equilibrium
	10.4.1 Total Revenue and Total Cost Approach
	10.4.2 Marginal Cost Marginal Revenue Approach
	10.7 The Short-run Competitive Firm’s Supply Curve
	10.7.1 The Short-run Industry Supply Curve
	10.8 Long-run Equilibrium in a Perfectly Competitive Market
	10.9 Long-run Industry Supply Curve
11.	ALLOCATIVE EFFICIENCY OF PERFECT COMPETITION	207-213
	11.1 The Allocative Efficiency of Perfect Competition
	11.2 Consumer Surplus

 

11.3 Producer Surplus

 

11.3.1 Any Higher Price Raises a Producer Surplus

 

11.4 Producer Surplus and Consumer Surplus Together

 

11.5 The Allocative Efficiency of Perfect Competition

 

		(xv)
12.	MONOPOLY		214-228
	12.1	Introduction
	12.2 Monopoly
	12.3	Features of Monopoly
	12.4 Why does Monopoly Arise?
	12.5 Short Run Equilibrium
	12.7 No Unique Supply Curve for Monopoly
	12.8	Multi Plant Monopoly
	12.9 The Allocative Inefficiency of Monopoly
	12.10 Long Run Monopoly Equilibrium
	12.11 Price Discrimination
		12.11.1 Types of Price Discrimination
		12.11.2 Degree of Price Discrimination
	12.12 Dumping- Price Discrimination
	12.13 Comparison of Perfect Competition with Monopoly
13.	MONOPOLISTIC COMPETITION		229-235
	13.1	Introduction
	13.2	Monopolistic Competition
		13.2.1 Assumptions
	13.3 Demand Curve Faced by a Firm under Monopolistic Competition
	13.4 Short Run Equilibrium
	13.5 Long Run Equilibrium
	13.6	Excess Capacity
	13.7	Perfect Competitive Vs Monopolistic Competition
14.	OLIGOPOLY		236-242
	14.1	Oligopoly
	14.2	Features of Oligopoly
	14.3 Demand Curve Under Oligopoly is Indeterminate
	14.4 Types of Oligopoly
	14.5 Why Few Large Firms Dominate an Industry?
		14.5.1 Natural Factors
		14.5.2 Natural Causes of Bigness
	14.6 The Basic Dilemma of Oligopoly
		14.6.1 Nash Equilibrium
	14.7 Oligopoly : As a Game
	14.8	Dynamics of Oligopolistic industries
15.	PRODUCER AND CONSUMER THEORY IN ACTION		243-252
	15.1Changes in Supply
	15.2	Effect of Changes in Input Prices
	15.3 The Effect of Taxes on Price and Output
	15.4	Effect of Changes in Technology
	15.5 Changes in Demand

		(xvi)
	15.6 Alternative Maximizing Theories
	15.7 Non Maximizing Theories
	15.8 OPEC: A Case Study of a Cartel
16.	MARKETS AND MARKET FAILURE		253-268
	16.1 Evolution of Government
	16.2 Functions of Government
	16.3 Role of Government
	16.4	Efficiency
	16.5	Market Failure
	16.6 Types of Good
	16.7	Cases of Market Failure
17.  INCOME DISTRIBUTION AND FACTOR PRICING			269-286
	17.1	Theory of Distribution
	17.2 Demand for Factors
	17.3	Concepts of Productivity
	17.4	Marginal Productivity Theory
		17.4.1 Assumptions
	17.5	Factor Pricing in Perfectly Competitive Market
		17.5.1 Assumptions
	17.6 Elasticity and Factor Demand
	16.7 Economic Rent
18.	INTERNATIONAL TRADE		287-297
	18.1	Introduction
	18.2 The Gains from Trade
	18.3 The Classical Theory of International Trade
	18.4 Trade based on Absolute Advantage : Adam Smith
		18.4.1 Assumptions
		18.4.2 Absolute Advantage Theory
	18.5 Trade Based on Comparative Advantage
	18.6 Labor Theory of Value
	18.7 Trade Barriers
		18.7.1 Types : There are Various Types of Tariffs:
		18.7.2 Definition:
		18.7.3 Types :
		18.7.4 Partial Equilibrium Analysis of a tariff
	18.8	Effects of a Tariff on Consumer and Producer Surplus and Cost and Benefit Analysis of a tariff
	18.9	Non-Tariff Barriers to Trade
	18.10 World Trade Organisation
		18.10.1 History:
		18.10.2 From Geneva to Tokyo

 

18.10.3 Uruguay Round

 

18.10.4 The Agreement Establishing the WTO

 

18.10.5 Functions of WTO

 

About Authors

Ms. Loveleen Gupta is an Assistant Professor at Bharati College, Delhi University. She has rich teaching experience in various subjects. Her core areas of research are Indian Economy, Development Economics and International Economics. She has written various modules in Micro Economics for UGC E-pathsala. She has co-authored four books viz. History of Economic Thought (2016), Micro Economics I (2015), Micro Economics II (2015) and International Trade (2014).

Mr. Pradeep Kumar Panda is an Economist. He is awarded with Best Young Researcher Award 2016 for outstanding contribution to research and publication in the field of Economics by GRABS Educational Charitable Trust, Chennai. He has published twelvebooks viz. Women Empowerment (2017), Micro Economics (2017), Macro Economics (2017), Odisha (2016), History of Economic Thought (2016), Micro Economics I (2015), Micro Economics II (2015), International Trade (2014), On the Predictability of Mutual Funds Return (2012), Sri Krishna Speaks (2012), Sri Sathya Sai Speaks (2012), and Sach is Life (2012). Over 30 research papers in the areas of Women Empowerment, Macro-Monetary Economics, Financial Economics and International Economics are published in various national and international journals. He is columnist Orissa Post News paper and published over 50 articles in the areas of Gender, Economy, Finance and Entrepreneurship Development. He is resource person of several national and international journals. For more details visit www.pradeepkumarpanda.weebly.com.