MGT1105 – MIDTERM REVIEWER 

MARGINAL COST: refers to the value of what is given up

in order to produce that additional unit
Basic Economic Concepts:
MARGINAL BENEFIT: refers to what people are willing to
ECONOMICS: the study of how society manages its give up in order to obtain one more unit of good
scarce resources.
**when MB > MC, consumers will continue to purchase
-A social science which deals with the allocation &
utilization of scarce resources to satisfy unlimited wants (In Exercise 1, Opportunity Cost = Direct Cost + Indirect
or needs. Cost)

-“Oikonomos” : one who manages the household Branches of Economics:

2 CENTRAL ECONOMIC PROBLEMS: MICROECONOMICS: is concern with the behavior of

individual units, households, factors of production and
1. Scarcity of resources firms
2. Unlimited wants or needs
-individual decision making units
*To satisfy, set a system of priorities. Buy the things you
need first—basic needs. -individual prices of goods and services

POSITIVE ECONOMICS: focuses on facts & cause and -individual income

effect relationships. It avoids value judgment. Concerns
-individual output
“what is.”
-number of people hired/fired in a particular area or
-Like a hypothesis it can be tested, proved or disproved.
region
(through observation and measurement)
-it examines the trees
NORMATIVE ECONOMICS: incorporates value
judgments; embodies subjective feelings about what MACROECONOMICS: is concern with the economy as a
ought to be, or the word “should.” whole
-“opinionated,” and no one can prove whether the -general/overall price level
statement is correct or incorrect
-national/total income
Father of Economics: Adam Smith
-total consumption/expenditure
“Wealth of Nation” –most important contribution
-total output/GDP
*Division of Labor
-total employment/unemployment
*Specialization of Labor
-it sees the forest
-“more production means more income”
Basic Economic Problems:
SCARCITY: restricts options & demand choices
1.What goods to produce & how much?
-basis of all economic activities
2.How are the goods produced?
-the reason why opportunity costs arise
>Method of Production (to find which is more
OPPORTUNITY COST: that which you forego or give up appropriate to minimize cost production)
when you make a choice or a decision
 Labor Intensive Technology: utilized more
-foregone alternative human labor rather than machine
 Capital Intensive Technology: utilized more
-what a person loses by choosing one opportunity
machine rather than human labor
instead of another
-use more abundant resources & less scarce resources
-whatever must be given up to obtain some item
3.For whom are the goods produced?
-Free Market System: operated by price 2.ability to buy
-Communism: government is the one distributing goods MARKET: brings together buyers and sellers; in which
or determining the price large number of independently acting buyers & sellers
come together to buy and sell standardized products.
RESOURCES CATEGORIES:
PRIMARY DETERMINANT OF DEMAND: Prices
1.Land- includes all natural resources
NONPRICE DETERMINANTS OF DEMAND:
2.Labor-physical actions & mental acts contribute to
goods & services 1. Income – higher income; higher demand, lower
income; lower demand
3.Capital-manmade aid in production (building, 2. Population – higher population; higher demand,
equipment, machines, tools, etc.) lower population; lower demand
4.Enterprenueral Ability-combination of the 1st three to 3. Taste & Preferences – if the product is
make them more productive (captain of the industry; fashionable, demand is HIGH & vice versa
decides which is good to produce, how, & for whom) 4. Price Expectation – future prices affect present
demand (ex. Gas)
PRODUCTION POSSIBILITIES FRONTIER
PRICES OF RELATED GOODS:
-also called “Production Possibility Boundary”
1.Compliment Goods – is one that is used together with
-represents efficient level of production another good (Ex. If price for coffee increases, demand
-a graph that shows the combination of output that the for coffee decreases and so demand for sugar
economy can possibly produce given the available decreases; if price of coffee decreases, demand for
factors of production & the available production coffee increases and so demand for sugar increases)
technology (Ex. 2. Substitute Goods – is one that can be used in place of
) another good

-no unused labor; FULL EMPLOYMENT LAW OF DEMAND: other things equal, as price falls, the
quantity demanded rises, and as price rises, quantity
EFFICIENT ECONOMY: produce goods at a least cost to demanded falls.
maximize profit & minimize cost of production
-there is a negative or inverse relationship between
-If the point is outside the curve of PPF, it is price & quantity demanded
unattainable because labor & technology is insufficient
Validity of the Law of Demand: “Ceteris Paribus”, “All
-Points inside & on the PPF are attainable because they else equal, all other things remain constant”
have sufficient labor & technology
**Nonprice determinants of demand such as income,
INVISIBLE HAND: a hypothetical economic force that in population, taste & preferences, and so forth should
a freely competitive market works for the benefit of all remain constant ONLY THE PRICE WILL CHANGE.
-Adam Smith theorized that as every individual intends SUPPLY
to seek out gains, he is “led by an invisible hand to
promote an end which was no part of his intention” -is a schedule or a curve showing the various amounts
of a product that producers are willing & able to make
available for sale
DEMAND *REQUISITES OF SUPPLY:
-is a schedule or a curve that shows the various 1.willingness to sell
amounts of a product that consumers are willing and
able to purchase at each pf a series of possible prices 2.ability to sell
during a specified period of time PRIMARY DETERMINANT OF SUPPLY: Price (if higher,
*REQUISITES OF DEMAND: supply is higher; if lower, supply is lower)

1.willingness to buy NONPRICE DETERMINANTS OF SUPPLY:

 1. Technology – updated & newest version BUDGET LINE: represents all combinations of goods
produces more & lower unit of cost which, if chosen by a particular consumer, would leave
2. Resource Prices – cost of production (labor & no additional money left in his or her budget
raw materials)
3. Number of Sellers – 2 factors; price & cost of -shows the various combinations of the two goods that
the consumers can afford
production. If COP is lower, more sellers
4. Producer Expectation – If price is higher, -it tells what the individual is able to buy
hoarding happens
5. Prices of Other Goods – If one is higher, more -income
production for that for more profit *CHARACTERISTICS OF BUDGET LINE
6. Taxes & Subsidies – government aid
1. Price change
LAW OF SUPPLY: shows a positive or direct relationship
between price & quantity supplied 2. Income change
“Ceteris Paribus” – as price rises, quantity supplied also
rises & vice versa
Validity of the Law of Supply: valid if the assumption of SLOPE: change in the variable on the vertical axis
“Ceteris Paribus” is applied; “all else equal; all other divided by change in the variable on the horizontal axis
things remain constant”
KINKY BUDGETS: occur when the price of a good
**Nonprice determinants of supply such as technology, changes causing individual to buy more of it
resource price, number of sellers, and so forth should
ENDOGENOUS INCOME: arise from endowments
remain constant ONLY THE PRICE WILL CHANGE.
ENDOWMENT: a bundle of goods owned by a consumer
Surplus: QS > QD (Price decreases)
and tradable for other goods
Equilibrium: QD = QS (Price is stable)
-something whose value is determined by prices in the
Shortage: QD > QS (Price increases) economy to get money for consumption
CH. 2-3: BUDGET LINE **note that new choice set must pass through our
endowment bundle because it is always possible to
CONSUMER CHOICE SET: all the options we can choose simply consume that bundle.
from our given constraints
**note also that the slope of the new budget line is the
**People make the best choices they can given their new opportunity cost
circumstances
**when budget line arises from endowments, a price
CONSTRAINT: limits on the kinds of choices that are change therefore causes a rotation of the budget line
available to us; something that controls what you do by through the endowment bundle
keeping you within particular limits
 Current Income
 Assets (from Savings)
 Skills
 Time
 Future Income (for Borrowing)
 Psychological
PRICE TAKER: economics agents that cannot influence
the prices in the economy
COMPOSITE GOODS: aggregates many goods into one
EXOGENOUS INCOME: fixed income; income is defined
as exogenous if its dollar value is unaffected by prices in -choice sets with three goods
the economy -all the rest or all the remaining goods that we can
consume
-dollar spent on goods other than the other

CH 5 – DIFFERENT TYPES OF TASTES

ECONOMIC CIRCUMSTANCES *TWO FUNDAMENTAL RATIONALITY ASSUMPTION
ENDOWMENT: -always the bundle that a consumer can ABOUT TASTES:
consume regardless of market prices (or wages)
1. COMPLETE TASTES – implies a person can rank any
*EXAMPLE: two bundles
-out rime & skill when we work; a financial asset when 2. TRANSITIVE TASTES – implies that there is always a
we cash in our savings; our ability to earn future “best bundle”
income when we borrow
RATIONAL TASTE: the ability to make consistent choices;
**Given the wage we can earn (as price takers), we can both complete & transitive
choose how many hours to work—which then
determines how much we have to allocate for *THREE MORE ASSUMPTIONS:
consumption 1. MONOTONICITY – “more is better, or at least not
CONSTRAINTS: worse” usually we will mean the following if bundle A
has more of all goods than bundle B, a is strictly
-our hourly wage is given by the market (for our skill preferred to B. If bundle A has more of some goods &
level) no less of any goods than B, bundle A is at least as good
as B.
-we have a fixed endowment of time that we can split
between work & leisure 2. CONVEXITY – “averages are better than extremes, or
at least no worse” usually we will mean the following; if
OUR CHOICE SETS AS WORKERS: GRAPHING the consumer is indifferent between bundles A & B, any
LEISURE/CONSUMPTION CHOICE SETS weighted average between A & B is at least as good as A
-The choice set for consumers is the set of all or B.
consumption bundles that are affordable given the 3. CONTINUITY – “no sudden jumps” preference
consumer’s resources & given the price of goods orderings over bundles do not suddenly change because
*The choice set for workers includes all bundles of tiny changes in bundles
composed of: (Note also that the continuity assumption guarantees
1. consumption goods (often modeled as a composite that such indifferent bundles exist. With “no sudden
good) jumps”, we can always alter bundles by taking away
some of one good & adding some of another to cause
2. hours of leisure such that the earnings from giving up no jump in happiness)
2 can finance 1
**Leisure hours can be sold for an hourly wage, which
implies that the opportunity cost of an hour of leisure is MARGINAL RATE OF SUBSTITUTION: the MRS at a given
the wage (that could otherwise have been earned & bundle, is the number of goods on the vertical axis a
spent on consumption) consumer is willing to give up in order to get one more
unit of the good on the horizontal axis.
**(GRAPHS IN THE PPT COPY)**
INDIFFERENCE MAPS
There are 3 main ways in which indifference maps
differ:
1. The shapes of individual indifference curves
(substitutability)
SUBSTITUTE: put simply, is a good that can be used in
place of another
PERFECT SUBSTITUTES: this is an extreme case. A ORDINAL UTILITY: believes that utility can be ranked or
perfect substitute can be used in exactly the same way compared
as the good or service it replaces.
UTILS: an imaginary unit of measuring satisfaction; unit
COMPLIMENTS: goods that compliment other goods; satisfaction
goods can be consumed individually
MARGINAL UTILITY: is the extra satisfaction consumer
PERFECT COMPLIMENTS: are goods which only provide realized from an additional unit of a product
utility or happiness when they are consumed together;
-the additional satisfaction gained by the consumption
“goods that go together”
or use of one more unit of something
**(GRAPHS IN THE PPT COPY)**
-satisfaction comes from the last unit consumed
APPROACHES TO MAXIMIZATION OF SATISFACTION
TOTAL UTILITY: the total amount of satisfaction or
1. UTILITY APPROACH pleasure a person derives from consuming some
2. INDIFFERENCE CURVE – BUDGET LINE specific quantity
APPROACH
-addition of all the marginal utilities
-satisfaction comes from all the unit consumed
BASIC DETERMINANTS OF INDIVIDUALS DEMAND FOR A
PRODUCT
1. Price POINT OF SATURATION: when marginal utility is ZERO
and total utility is maximum
2. Income
3. Tastes & Preferences LAW OF DIMINISHING MARGINAL UTILITY: added
satisfaction diminished as consumer acquires additional
CONSUMER BEHAVIOR: preferences are a ranking of
bundles of consumer goods in the order of desirability. unit of a given product
Consumer preferences are independent of income & -point of saturation
prices.
*EXEMPTION TO THE RULE
UTILITY: satisfaction or pleasure.
1. Set completion
-want—satisfying power
2. Addiction
-the satisfaction or reward a product yields relative to
its alternatives **TO COMPUTE MARGINAL UTILITY (MU): TU2 – TU1 /
Q2 – Q1
-the basis of choice
INDIFFERENCE CURVE
*CHARACTERISTICS OF UTILITY
-is a theory of consumer behavior which expresses
1. “Utility” & “usefulness” are not synonymous consumer taste in curves that show his preferences
2. Utility is subjective among various combinations of goods.
-Locus of good X & good Y that yield the same amount
3. Utility is difficult to quantify
of satisfaction
*CERTAIN PROBLEMS IMPLICIT IN THE CONCEPT OF
-a curve showing a combination of quantities of two
UTILITY:
goods such that an individual is indifferent between any
1. First, it is impossible to measure utility completely or combination in the set.
accurately
-it tells what the individual would like to buy
2. Second, it is impossible to compare the utilities of
different people
CARDINAL UTILITY: believes that utility can be measured BUDGET LINE: shows what combination of goods
measured on the axes to be purchased by an individual
numerically
who has a particular income & who faces particular
prices for those goods
-tells what the individual is able to buy

MAXIMIZATION OF SATISFACTION AT THE POINT OF

TANGENCY: meeting at a point or along a line without
further coincidence or intersection
-both two lines or surface so touching
*CHARACTERISTICS OF INDIFFERENCE CURVE:
1. IC is negatively sloped
2. It is convex to the point of origin
3. The higher the IC, the higher the satisfaction. The
lower the IC, the lower the satisfaction
**when IC is tangent to BL, satisfaction is maximum.
TC=B