Lecture Notes

International Program

Introduction to
MICROECONOMICS

by :

Prof. DR. H. Firwan Tan, SE, M.Ec, DEA.Ing

 Hand Books
1. Understanding Microeconomics
by : - Robert L. Heilbroner
- Lester C. Thurow
Fifth Edition, Published by Prentice-Hall International, Inc, London, 1981

2. Economics, by : - Richard G. Lipsey and Peter O.Steiner; Sixth Edition

Published by Harper International Edition, 1981

3. Paul A. Samuelson, Economics, International Student Edition, Published

by McGraw-Hill Book Campany.
 Expected Outline for a One-Semester Course
Introduction
1- The Economic Problem
2- Economics as a Social Science
3- An Overview of the Economy

Microeconomics
3- Demand, Supply, and Price
4- Elasticity of Demand and Supply
5- The Firm, Production, and Cost
6- Production and Cost in the Short Run
7- Production, Substitution, and Productivity Increases : Cost in the Long and Very Long Run
8- Pricing in Competitive Markets
9- Pricing in Monopoly Markets
10- Microeconomic Policy I : Benefits and Costs of Government Intervention in the Market Economy

Lectures that can be added to give different emphases to different courses

11- Supply and Demand in Action I : Agriculture and the Volunteer Army
12- Supply and Demand in Action II : Price and Rent Ceilings
13- Industrial Organization and Theory of Imperfect Competition
14- Price Theory in Action
15- Monopoly Versus Competition
16- The Distribution of National Income
17- Collective Bargaining. Discrimination, and the Determination of Wages
18- Poverty, Inequality, and Mobility
19- Microeconomic Policy II : Public Finance and Public Expenditure
 INRODUCTION

Understanding
THE ECONOMIC BACKGROUND ?
 QUICK REVIEW
Economics is concerned with obtaining maximum
satisfaction through the efficient use of scarce
resources.

The economic perspective stresses (a) resources scarcity

and the necessity of making choices, (b) the assumption
of rational behavior, and (c) consumptions of marginal
benefit and marginal cost.

Your study of economics will help you as a voting

citizen as well as benefit you professionally and
personally.

Macroeconomics examines the economy as a whole;

microeconomics focuses on specific units of the economy.

Positive economics deals with factual statements (what

is); normative economics involves value judgment (what
ought to be). Theoritical economics is positive;
policy economics is normative
 POLICY ECONOMICS

THEORITICAL ECONOMICS

THEORIES

FACTS

THE RELATIONSHIPS BETWEEN FACTS, THEORIES, AND POLICIES IN ECONOMICS

Business System Vision, Missions & Objective,

Global System :
International business,
trade, marketing, MNC,.
BOD

Sub-Macro
Sub Macro System :
EC, ASEAN, COMECON. System

MAN-STAFFS

Very Micro
System Staff

Sub-Sub
System
Very Micro
System

Labors

System Micro Economic

System Macro Economic
(individual firm)
Dynamic system of
Tourism market Phillipines DIY
Jepang

Jambi Archiological
Remains
Archiological Bali/NTT
Remains
(Jambi, Bengkulu
(Maharaja Diraja,
Riau)
Australia G.Merapai)
Di T.Datar Phuket
Danau
MIA Thailand
(beautifulness) :
Singkarak, P.Panjang ke/dari
TRADE Kepulauan
Danau Diatas, Payakumbuh BTinggi Mentawai
B.Sangkar Marks,
Maninjau L.Basung Kerajinan Resort
Kerinci,. tangan
Jakarta Anai Golft
Resort, Hotel & Padang
Buru Babi Tourism Growth Pole Informasi
Binatang Pasar tradisi
Pesta Adat langka B.TINGGI Wisata
Minangkabau Islands
(cultural T.Bayur, (T P T) Sungai puar, Resort &
Attraction) Wisata Kota Gadang Keindahan Langkawi
Hongkong Tea
Pantai Alam Lain2
Plantation, Malaisia
Kereta
Tumbuhan
Api Wisata
Langka
Rumah2 gadang/ Tokoh2
Bengkulu Adat, mesjid2 tua
Taman2
Kemerdekaan,
Dan Mesium Perantau Batam
Budaya,
Tarian spesifik,
Termasuk
TNKS Paris
Singapura
Perancis

Medan Pekanbaru
Losengles
USA
THE EVOLUTION OF MARKET SYSTEM

THE EMERGENCY OF A MARKET SOCIETY

CAPITALISM . FREE ENTREPRISE SYSTEM

WHY DO WE CALL ECONOMY CAPITALISM..?

THE ANSWERS SUCH AS THESE :

It recognizes the right of private property

Its run by a market system, not by the governement
It believes in economic freedom

It puts moneymaking over everything else

Its capitalist because the rich own most of the wealth
Its unstable, contstantly producing problems
 MARKET SOCIETY
A MARKET SOCIETY IS ONE WHERE ECONOMIC ACTIVITIES ARE LEFT
TO MEN & WOMEN FREELY RESPONDING TO OPPORTUNITIES OR
DISCOURAGEMENTS OF THE MARKETPLACE, NOT TO ESTABLISHED
ROUTINES OF TRADITION OR THE DICTATES OF SOMEONES COMMAND.

Specifically this means that in a market society individuals seeks

Work for wages, not because they are born to a certain station in life.
It means that land can be transferred from one person to another and
will be offered for use in exchange for rental payments.

Finally, a market in capital means that therE is a regular flow of wealth

into production a flow of saving and a flow of investment organized
throught banks and other financial companies, where borrowers pay
interest as the reward for having the use of the wealth of lenders.

THERE WAS NOTHING LIKE THIS BEFORE CAPITALISM,

EXCEPT IN THE VERY SMALL AND DISREPUTABLE CAPITAL MARKETS
PERSONIFIED IN THE HATED MANEYLENDER
t in capital means that there is a regular flow of wealth into production
THE FACTOR OF PRODUCTION : LABOR,.. LAND, CAPITAL
There were no factor of production before capitalism existed

The Economic Revolution

TORS OF PRODUCTION, WITHOUT WHICH A MARKET SOCIETY COULD NO
RNAL ATTRIBUTES OF A NATURAL ORDER. THEY ARE THE CREATIONS OF
HANGES, A CHANGES THAT DIVORCED LABOR FROM SOCIAL LIFE, THAT
ESTATE OUT OF ANCESTRAL LAND, AND THE MADE TREASURE INTO CAP

alism is the outcome of revolutionary change a change in laws, attitud

and social rerlationships
As deep and far-reaching as any in history
IN THE LATE EIGTEENTH AND EARLY NINETEENT CENTURIES
CAPITALISM RAISED A CROP OF TECHNOLOGY-MINDED
ENTREPRENEURS, A WHOLLY NEW PHENOMENON IN
ECONOMIC HISTORY .

For example, there was John Wilkinson

Son of an iron producer,
who become a driving force for technical
change in his trade..

The Effects of Technology :

-Output inreased enormously, raising living standards
--The scale of economic organization grew vastly larger
-The devision of labor changed the nature of works
--A new form of economic insecurity
 THE POLITICAL DIMENSION

POLITICAL FREEDOM

LAISSEZ-FAIRE VS POLITICAL INTERVENTION

Because economic freedom on which the market system rested,

The basic philosopy of capitalism from ADAM SMITHs day
Forward has been laissez-faire
The Economic Problems
Unemployment
Inflation
Energy
The problems of economics arise
Productivity
out of The Use of scarce resources
Growth
to satisfy unlimited human wants.
Distribution of wealth
Natural Resources
Scarcity is inevitable and is central
Pollution
to economic problems
Education
Poverty
Medical Care
Population
Environment
Etc,..

Economics is a study of mankind in the ordinary business life

(by : Alfred Marshalls)
 Unattainable
Quantity of Area
?
A

Attainable
Area

Quantity of
... ?
A limited amount of money
forces a choice among alter-
natives.

Five combination of Corn

and Rice are attainable and Unattainable Area

Quantity of Corn
use all of the boys Money.

The downward-sloping line A

provides a boundary between
attainable and unattainable
combinations.
Attainable Area
The arrows (red) show that
the opportunity cost of 1
more Rice is 2 corn.

In this example, the opportu- Quantity of Rice

nity cost is constant and
therefore the boundary is a
Every time one is forced by scarcity to make a choice,
straight line.
one is incurring opportunity costs. These costs are
measured in terms of forgone alternatives.
A limited amount of money
forces a choice among alter-
natives.

Five combination of Corn

and Rice are attainable and
use all of the boys Money.
Unattainable Area

Quantity of Corn
The downward-sloping line
provides a boundary between
attainable and unattainable
combinations.

The 1st arrows (red) show that

the opportunity cost of 1
more Rice is 2 corn. But if we
add more Rice, corn need to be
sacrifised going to be smaller Attainable Area
and smaller (margin in decreasing
Rate)

In this example, the opportu-

nity cost is not constant and
therefore the boundary is not a Quantity of Rice
straight line.

Every time one is forced by scarcity to make a choice,

one is incurring opportunity costs. These costs are
measured in terms of forgone alternatives.
A Production Possibility Boundary
The downward-sloping boundary shows Unattainable
the combinations that are just attainable A combination
when all of societys resources are D
efficiently employed.

Quantity of Civilian Goods

The quantity of military goods produced
is measured along the horizontal axis,
the quantity of civilian goods along the
vertical axis. Thus any point on the diagram C
Indicates some amount of each kind of
goods produced.
Attainable
The production possibility boundary combination B
separates the attainable combination of
goods such as A, B, and C and unattainable
combinations such as D.

It slopes downward because resources are

scare : more of one good can be produced
only if resources are freed by producing
less of the other good.
Point A and B represent efficient combina-
tions that use all of society's resources.
Point C represents either inefficient use of
resources or failure to use all the available
resources.
O Quantity of Military Goods
A Downward-sloping production possibility boundary
Illustrates three concepts : scarcity, choice, and
opportunity Cost. Scarcity is implied by the unattai-
nable combinations above the boundary; choice,
by the need to choose among the attainable points;
opportunity cost, by the downward slope of boundary
 DIMINISHING RETURN IS
A FONDAMENTAL LAW OF ECONOMICS AND TECHNOLOGY

Man- Total
No Year of Product, Extra Output
Labor Bushels Added by
Additional Unit of
(INPUT (output) Labor
S)

1 0 0
+ 2000
2 1 2,000 1,000
3 2 3,000 500

4 3 3,500
300 -
100
5 4 3,800
- The law of diminishing returns refers to the amount of extra outpu
6
add equal 5 unit of a
Extra 3,900
varying input to fixed amount of some ot
- The law of diminishing returns refers to successivey lower extra ou
equal doses of a variable input .. (Pencil in the extra output o
- Exp See Table above
 Goods :

tangible commodities such as Car or Shoes

SERVICES :

intangible commodities such as Haircuts or

Medical Care.

GOODS and SERVICES

Some Economic Problems or the main Questions
should be answered. !!
1 - What Goods and Services Are Being Produced and
in What Quantities ?

2 - By what Methods are Goods and Services Produced ?

3 - How is the Supply of Goods Allocated Among

the Members of Society ?

4 - Are the Countrys Resources Being Fully Utilized, or

Are Some Lying Idle and Thus Going to Waste ?

5 - Is the purchasing Power of Money and Savings Constant

or is it Being Eroded Because of inflation ?

6- Is the Economys Capacity to produce Goods Growing or

Remaining the Same over time ?
 Production Possibility
The Effect of Economic Growth on Boundary (Curve) after growth
the Production Possibility Boundary or
Y* M
the Production Possibility Curve

Quantity of Civilian Goods

y A D
Economic Growth shifts
y1
the boundary Outward and
makes it possible to have
Outward
more of all commodities. Inward

Before growth in productive Production Possibility

capacity, points A and B were Boundary (Curve) before growth
B
on the production possibility
Boundary and point D was an
unattainable combination.
x1 x2 x X*
After growth, point D and Quantity of Military Goods
many other previously
unattainable combinations
are attainable, as shown
by yx curve
 Economics, broadly defined, concerns :

1- The ways in which a society uses its resources

and distributes the fruits of production to
individuals and groups in the society.

2- The ways in which production and distribution

change over time

3- The efficiencies of economic systems

The roles of Economist in Economic Policy

Economist do not establish

goals, but they are often
involved in helping to resolve
conflicts among competing
goals, in forgoing the links
between goals and the means
available to achieve them, and
in evaluating policy proposals
 Economics as Social Science
Economics, like other sciences, is concerned with questions,
statements, and hyphothesis that could conceivably be shown to be
wrong (that is, false) by actual observations of the world. It is not
necessary to show them to be either consistent ot inconsistent with
the fact tommorow ot the next day; it is only necessary to be able to
imagine evidence that could show them to be wrong.

Theories are used in explaining observed phenomena. A successful

theory enable us to predict the consequence of various occurrences

The choice is not between theories and observation but between

better or worse theories to explain observations

A Theory consists of (1) a set of definitions that clearly define the

Variables to be used; (2) a set of assumtions that outline the
conditions under which the theory is to apply; (3) one or more
hyphoteses about the relationships of variables, and (4) prediction
that are deduced from the assumptions of the theory and can be
tested against actual emperical observations.

Endegenous variables ( or induced variables) are those that are

explained within a theory

Exogeneous variables ( or autonomous varibales) are those that

influence the Endegenous variables but are themselves determined
by considerations outside of the theory.
 Theory and Observation are in Continous Interaction
Definitions, Assumtions, and The existing theory is amended ora new
hyphoteses abaout behavior theory is proposed in light of the newly
acquired emperical knowledge

A process of
logical deduction

A process of
logical deduction

A process of Either
Emperical observation

Conclusion :
The theory does not provide a better If the theory is in conflict
Explaination of the facts than alternative with the evidence
competing theory
or

If the theory passes the test, no Consequent

The theory is discarded in favor of
action is necessary. Although, of cource the
theory should Subjected to continued scrutiny A superior competing theory
 What you have to know ?

UTILITY GOOD & SERVICES

PRICE& .. BEHAVIOR
TASTE & INCOME
BUDGET
DIMINISHING MARGINAL UTILITY
DEMAND CURVE
MARKETS
ECONOMIC FREEDOM
WEALTH AND VALUES
PRIVATE PROPERTY
THE RICH AND THE POWERFUL
STABILITY
THE FACTOR OF PRODUCTION
BUSINESS
HOUSEHOLDS
DEMAND, SUPPLY &
PRICE
 THE CIRCULAR FLOWS OF GOODS & SERVICES & MONEY PAYMENT
BETWEEN FIRM & HOUSEHOLDS

DEMAND SIDES SUPPLY SIDES

Shoes
HOUSEHOLDS
Shoes
Housing+ Produce & Sell factor services
Tea + Buy Proucts Housing
y Tea
i t
o d
mow
m l
Co F

BUSINESS
FACTOR MARKETS PRODUCT MARKETS
PUBLIC

+ Employement Help wanted + Sale Today

Money Flow
+ Determine factor prices + Determine product prices
& quantities & quantities

Labor FIRMS
CapitalLand
Goods + Buy factor services Labor
LandCapital
+ Produce & Sell Proucts Goods
SUPPLY SIDES
DEMAND SIDES
The Big Questions : WHAT,,, HOW,,,, FOR WHOM??
SARJANA (S1,S2, S3). ?... Yes.>>>> BUT, WHAT
SHOULD I DO ..? .?

SHS
STUDENTS

GRADUA
TE
STUDEN
TS
 Industrial Engineering System On the Resources Based

Agricultural activities
Tourism activities

Fishering activities
Manufacturing activities

Trading Activities
 Series of technological revolution
?
? ? ?
? Multimedia
?
Missile Pesawat
COCACOLA Minitel
Aotumatik Tanpa awak
Quick Count
Teh botol Bank Syariah
Logiciial
Laser 2000
Pesawat
Internet System
Angkasa Luar
Aqua Elektro Audio Visio
Bank Muamalat
Marketing Micro mekanik Conference
Politik Processor
Modal Fax Biologi
ventura Nuklir 1990
Mesin Flexicom
Pesawat Anti
AIR Numerical
Diposito Transistor Pertanian Communication Radar
TV Alamiah

informtik Kapal selam

Pesawat Chirurgie
Nuklir
Bursa Effects Udara Satelit
Radio Petrol 1980
Credit Cards Elektro Obat Missiles
Wareless
Surat Kabar Managers Moderen
Mobil
Cable
METRO Radar

Bank Angkutan
Motor peledak VACSIN
PRESS Komersial Umum
Tank 1930
Telepon
Tramways
Tambang Kapal Selam
BANK Sepeda Rel KA

Telegram
MOTOR
ELEKRONIK
MESIN UAP Senjata
1830
ndustrial revolution MEKANIK Klassik
 Quantity Demanded.. ?
e of Quantity Demanded : The total amount of a commodity
olds wish to purchase is called the quantity demanded of that co
emanded is a desired quantity
es not refer to idle dreams or future possibilities but to
DEMANDS
emanded refers to a continuous FLOW of purchases, expressed
h PER PEIOD OF TIME.

of Quantity Demanded :

oditys own price

of related commodities
ousehold income

ution of income among household

population
 Utility, DEMAND, SUPPLY & PRICE
Utilities, Price, Demand & Supply
Utility

Th
DEMAND SUPPLY

e
CURVE CURVE
A0

La
U0 A1

w
A2

of
A3
A4

D
A5

im
U6 A6

in
is
hi
ng
M
ar
Quantity Supplied
Q0 Q6
Quantity USED
gi
na
Ul
ti
lit
ONOMIC HYPHOTHESIS IS THAT THE LOWER THE PRICE OF COMMODITY, THE LARG
ITY THAT WILL BE DEMANDED, OTHER THINGS BEING EQUAL. y

r willingness to buy be related to price..? The answer lies in the nature of UTI
ent of pleasure is called MARGINAL UTILITY. General tendency of MU to diminish
F DIMINISHING MU
 DEMAND SCHEDULE & CURVE

140
DEMAND CURVE

PRICES
120
Z
100
PRICES

Y
80
X
60 DEMAND CURVE
W
40
V
20 U Quantities
Quantities
20 40 60 80 100 120 140

No Quantity demanded when

DEMAND Price per average household income is
SCHEDULE ton ($) $20,000 per year (Thousands of
tons per months)
1 U 20 110.000
2 V 40 90.000
3 W 60 77.500
4 X 80 67.500
5 Y 100 62.500
table shows
6 the quantity
Z that would
120 be demanded at various
60.000 prices, ceteris pari
emand curve relates quantity demanded to the price; its downward slope indicat
quantity demanded increases as price falls
 140
Z
120
Z
Y
100
SHIFT IN THE
PRICES
Y X DEMAND CURVE
80
X W
60
W V
40
V U
D
20 U
D
Quantities
20 40 60 80 100 120 140

N DEMAN
D
Pric Quantity demanded Quantity demanded DEMAND
o e when average household when average SCHEDU
SCHED income is $20,000 per household income is LES
ULES per year (Thousands of tons $24,000 per year
ton per months).. D (Thousands of tons per
($) months). D
1 U 20 110.000 114.000 U
2 V 40 90.000 116.000 V
3 W 60 77.500 100.800 W
4 X 80 67.500 87.500 X

ousehold
5 Yincome 100 shifts the demand
62.500 curve for most commodities to
81.300 Y the r
emanded
6 Z at each
120 possible price.
60.000 A rise in the price of a substitute
78.000 Z fo a c
or the commodities to the right. More will be purchased at each price.
 Movement along the demand curve
versus shifts of the whole curve

PRICES

D1
D
D2
Quantity per period
e demand curve from D to D1 indicates an increase i
to D2 indicates a decrease in Demand
down a demand curve is called an increase (or a rise) i
anded; a movement up the demand curve is called a d
he quantity demanded.
IN DEMAND MEANS THAT THE WHOLE DEMAND CURVE
IGHT; a fall in demand means that the whole demand
the left
 Shift in The DEMAND Curve
PRICE
U
P1
T A1 Shift in the DEMAND CURVE
I Price of bananas =
L Marginal utility of the money it costs
I A P
T
I
E P2
s A2
P3

O X1 O Q1 Q2 Q3
X2 X3 Q4
Bananas Quantity of Bananas
Per period of time

You are going to learn exactly what the word DEMAND means,
and what
A DEMAND CURVE represents
 The Basic
Theory of Supply
 Ex : Composition of National Product by Industry of Origin, 1955 and 1979

1955 1979
INDUSRY GROUP (%) (%)
(Supply Side)
1 Manufacturing 36.6 30.5
2 Mining and Constructions 7.7 7.7
3 Agriculture, forestry, fisheries 5.4 3.7
4 Transport, communications, utilities 9.4 9.4
5 Wholesale and retain trade 17.7 17.2
6 Finance, insurance, real estate 12.0 13.9
7 Other services 10.5 16.2
8 Other 0.7 1.4
Total 100 100
Source : Survey of Current Business, 1980
Excluding government and government enterprises
Notes : Over a generation manufacturing. agriculture., forestry, and
fisheries have . all declined in relative
importance while services of all kinds have become . more
important.
The Nature of Quantity Supplied

The amount of commodity that firms wish to sell is the quantity supplied of
that commodity. This is the amount that firms are willing to offer for sale;
it is not necessarily the amount they succeed in selling.

The term quantity actually sold or quantity exchanged indicates what they
actually succeed in selling.

Quantity supplied is a flow :

it is so much per unit of time, per day. per week, or per year.
WHAT DETERMINES QUANTITY SUPPLIED ?

1. The commoditys own price

2. The prices of other commodities
3. The costs of factors of production
4. The goals of the firm
5. The state of technology
 Supply and Price
A Supply Schedule For Carrots

A basic No
Unit of
carrots
Price per ton
(p)
Quantity Supplied
(thousands of tons
economic In US $ per month (S)
hypothesis is 1 20 5.0
u
that for many
commodities 2 v 40 46.0

the higher 3 60 77.5

w
their price,
The larger 4 x 80 100.0

the quantity 5 100 115.0

y
that will be
supplied, 6 z 120 122.5

other things The table shows the quantities that produces wish to sell at various
being equal. prices, certeris paribus. For Example, row Y indicates that if the
price were $ 100 per ton, producers would wish to sell 115,000 tons
of carrots per month.
 P
R
A SUPPLY CURVE for Carrots
I P
C
E z S
120
O +
F y
100
C x
A 80
R
R
60 w
O
T
S
v
40
u
Dollars per ton 20

Q
5.0 46.0 77.5 100 115 122
+
Quantity for Carrots (Thousands of Tons Per Month)

This supply curve relates quantity supplied to the price of carrots;

its upward slope indicates that quantity supplied increases as price increases.
There are six points corresponding to the price-quantity combinations.
 Supply and Price
A Supply Schedule For Carrots

A basic Old Price Quantity Supplied Quantity Supplied New

N Unit of per ton before cost-saving after the innovation Unit of
economic o innovation (thousands of tons
carrots (p) carrots
hyphotesi In US $
(thousands of tons per per month (S1)
s is that month (S)
for many
commodi 1 u 20 5.0 28.0 u
ties the
higher 2 v 40 46.0 76.0 V
their
price, The 3 60 77.5 102.0
larger the
w W
quantity 4 80 100.0 120.0
that will x X
be
supplied, 5 y 100 115.0 132.0 Y
other
things 6 z 120 122.5 140.0 Z
being
equal. A cost-saving innovation increases the quantity supplied at each price.
As a result of the cost-saving innovation quantity supplied at $ 100 per ton rise
from 115.000 to 132.000 tons per month.
1. A change of any variables (other than the commoditys own price)
that affect the amount of a commodity that firms are willing to produce
and offer for sale will shift the whole supply curve for that commodity

2. Since commodities are alternative outputs for producers,

a fall in the price of one commodity may shift the supply curve
of another to the right.

3. A rise in the costs of factors of production shifts to that left the supply
Curve of a commodity that uses that factor, indicating that less will be
Supplied at given price.
MOVEMENTS ALONG THE SUPPLY CURVE
VERSUS
SHIFTS OF THE WHOLE CURVE

S
P
S
z S S
120
y
100
x
80

60 w

v
40
u
20

Q
28 76 102 120 132 140
Shift in S2 S
the supply P S1
Curve leftward shift

PRICE
rightward shift

Q
Quantity per period

A Shift in the supply curve from S to S1, indicates an increase in supply; A

An increase in supply means more is supplied at each price. Such a rightw
in producers goals, improvement In technology, decreases in the prices of ot
factors of production that are important in producing the commodity.
A decrease in supply means less is supplied at each prices. Such a leftward
in producers goals, increases in the prices of other commodities, and increas
important in producing the commodity.
 Microeconomics :
3. DEMAND SUPPLY AND PRICE
+ Supply

Utilities & Supply

Utilities & Demand

- Quantity Supplied

+
Utilities & Supply
Supply
Quantity USED

Quantity Supplied
ND SUPPLY SCHEDULES FOR CARROTS AND EQUILIBRI

Price Quantity Quantity Excess Demand

N per demanded when Supplied (+)
o ton average (thousands of Excess Supply (-)
P household income tons
is $20,000 per (Thousands of
($) year (Thousands Per month) tons per months)
of tons per S D-S
months
D
1 20 110.0 5,0 + 105.0

2 40 90.0 46.0 + 44.0

3 60 77.5 77.5 0.0
4 80 67.5 100.0 - 32.5
5 100 62.5 115.0 - 52.5
6 120 60.0 122.5 - 62.5
BRIUM OCCURS WHERE QUANTITY DEMANDED EQUALS QUANTITY SU
WHERE THERE IS NEITHER EXCESS DEMAND NOR EXCESS SUPPLY
 THE DETERMINATION OF THE EQUILIBRIUM PRICE

EXCESS SUPPLY
PRICES

EXCESS DEMAND D

Quantity per period

M PRICE CORRESPONDS TO THE POINT WHERE DEMAND AND SUPPLY CU

POINT E INDICATES THE EQUILIBRIUM
 THE LAW OF SUPPLY AND DEMAND

D
S S
S

PRICES
PRICES

E1
E E
E1
D D

Quantity per period Quantity per period

The effect of shifts in demand curve The effect of shifts in supply cur

ON EQUILIBRIUM PRICE AND QUANTITY OF SHIFTS IN EITHER DEMAND O

CALLED THE LAWS OF SUPPLY AND DEMAND
 THE FIRM,
PRODUCTION,
and COST
There are 3 major forms of business organization :

The simple proprietorship

The partnership
The corporation

In the simple proprietorship, a single owner makes all decisions and is

personally responsible for everything done by the business.

In The partnership, there are two or more joint owners. Either may make
binding decisions, and each partner is personally responsible for everything
done by business.

In the corporation, the firm legally has an entity of its own. The owners (the
stocholders) are not each personally responsible for everthing that is done
by the business. Owners elect a board of directors who hirer managers to
run the firm under the boards supervision.

NOTES : CORPORATIONS ACCOUNT FOR MORE THAN TWO-THIRDS OF

THE NATIONS PRIVATELY PRODUCED INCOME
 In economic theory the firm is defined as the unit
that makes decisions with respect to the
production and sale of commodities.
It is assumed that the firm makes decisions in such
a way that its profits will be as large as possible. In
technical language, it is assumed that the firm
maximizes its profits
The firms behavior is rational, in facing several
alternatives of choices, it will select the one that
produces or creates the largest profits at lowest
costs
The firm is in business to make profits. It does this
by producing and selling one or more commodities.
Factors of Production (Capital, Land, and Labor).
the materials and factor services used in the
production process are called INPUTS, and the
products that emerge are called OUTPUTs
Economic Efficiency : Technological efficiency
measuress use of input in physical terms; economic
efficiency measures use in terms of costs.
The economically most efficient method is the one
that costs the least. Economic efficiency depends
on factor prices and on technological efficiency
Pure Competition

Large number of sellers

or firms, of buyers or
consumers
Easy entry and exit
The outputs of
competitive firms are
undifferentiated
 A curve of average unit AC/Unit of OUTPUT
costs usually fall at first
and then rises. We call such
curves dish-shaped or SHORT - RUN
U-Shaped. Remember AVERAGE UNIT COST CURVE
that they show how AC per
unit change as we vary
output. Total cost is shown
by multiplying AC per item
Y
by the number of units
produced. At output OX, TC
is OY x OX
O X OUTPUT

PRICE/Unit
LONG RUN COST CURVE
Unit COST CURVE
Of original Plant Unit COST CURVE Of
successive scales of output

O A QUANTITY

Cost curves change as the scale of output changes. The long-run cost curve, or envelope curve, shows how
a large scale first lowers units costs, then increases them. Theses curves refer to individual plants, not to firms
 Because of competitive firm PRICE
by definition cannot affect the DEMAND or MR Curve
market whether it sells all or
nothing at all, each unit of
item will face the same price.
Therefore the MR of each unit
will be the same. This means O QUANTITY
that the demand curve and
the MR curve are one and the Unit COST
A MC curve shows the MARGINAL COST PER UNIT
same perfectly
additional costs elastic,
horizontal lines.
of each unit as we increase
output. Usually the MC of the
first units is high; then it falls;
and finally rises, often sharply.
O QUANTITY

Revenue or Cost per Unit

MC & MR provide the MR
guide to the level of
output where PROFIT MC
is maximized. Think
about costs &
revenues for units X X
marked X and X O VOLUME OF OUTPUT
Why X can make
SUPPORT & CONTROL
PRICE POLICY S
SURPLUS
P1
SUPPORT
AT SUPPORT PRICE P1

PRICES
PRICE
CONSUMERS WANT TO BUY
Q1, FAMERS, HOWEVER, E
PRODUCE OQ2. THE
DIFFERENCE, Q1Q2, HAS TO D
BE BOUGHT AND STORED BY
THE GOVERNMENT.
O Q1 Q2
Quantity
S
AT PRICE CONTROL P1
CONSUMERS WANT TO
BUY Q2, FAMERS, PRICE
PRICES

CONTROL
HOWEVER, PRODUCE
OQ1. THE DIFFERENCE, E
Q1Q2, HAS TO BE P1
SUPPLIED BY THE SHORTAGE D
GOVERNMENT.
O Q1 Q2
Quantity
TOTAL, AVERAGE, AND (i) Total Product Curve
TP

TOTAL PRODUCT
MARGINAL PRODUCT CURVES

TP, AP, and MP curves

aften have the shapes MAX. AP
shown here. (i) The TP
curve shows TP steadily
rising, first at an
increasing rate, then at
decreasing rate. This
leads both AP and MP
curves in (ii) to rise at
first and then decline. O
The point of Maximum AP Quantity of labor
Q1
(also called the point of
diminishing Average Point of diminishing MP

UNIT OF LABOR
Productivity) is Q1. At
this point MP = AP PRODUCT PER Point of diminishing
AP

Where :
AP
AP = TP/L .. (1)
MP
MP = dTP/dL . (2)

O Q1
Quantity of labor
(ii) AP & MP CURVES
 The Variation of output with Capital
Fixed and labor Variable
The relation of output to changes
in quantity of labor can be looked (1) (2) (3) (4)
at in three different ways. Capital Quan Total Averag Margin
is assumed to be fixed at 4 units. tity Produ e al
As the quantity of labor increases, of ct Produc Produc
labor (TP) t (AP) t (MP)
the rate of output (TP) increases.
AP increases at first and then 0 0 -
declines. The same is true of MP.
Marginal Product is shown 1 15 15.0 15
between the lines because it
refers to the change in output from 2 34 17.0 19
one lavel of labor input to another.
When graphing the schedule, MPs 3 48 16.0 14
of this kind should be plotted at
the mid point of the interval. Thus
4 60 15.0 12
graphically, the MP of 12 would be
plotted to correspond to quantity of 5 62 12.4 2
labor of 3.5.
 Because of competitive firm
PRICE Optimum output MC
by definition cannot affect the
market whether it sells all or MR
nothing at all, each unit of
item will face the same price.
Therefore the MR of each unit
will be the same. This means O QUANTITY
that the demand curve,
average curve and the MR Unit COST
curve
A MC are one
curve andthe
shows the same MARGINAL COST
additionalelastic,
perfectly costs horizontal
of each unit as we increase
lines.
output. Usually the MC of the
first units is high; then it falls;
and finally rises, often sharply.
O OUTPUT

RUPIAH PER UNIT

MR & AR MC AC
THE FIRM IN X
D
EQUILIBRIUM WITH PROFIT
PROFITS. C B
How well is our firm TC
doing ? TC = OABC :
Output times AC. TR = A
O QUANTITY
OAXD : output times AR.