Part 1 Introduction to Microeconomics
Chapter 1 Analyzing Economic Problems 1
Microeconomics and Climate Change
1.1 Why Study Microeconomics? 4
1.2 Three Key Analytical Tools 5
Constrained Optimization 6
Equilibrium Analysis 12
Comparative Statics 13
1.3 Positive and Normative Analysis 18
Chapter 2 Demand and Supply Analysis 26
What Gives with the Price of Corn?
2.1 Demand, Supply, and Market Equilibrium 29
Demand Curves 30
Supply Curves 32
Market Equilibrium 33
Shifts in Supply and Demand 35
2.2 Price Elasticity of Demand 45
Elasticities Along Specific Demand Curves 47
Price Elasticity of Demand and Total Revenue 49
Determinants of the Price Elasticity of Demand 50
Market-Level versus Brand-Level Price Elasticities of Demand 51
2.3 Other Elasticities 53
Income Elasticity of Demand 53
Cross-Price Elasticity of Demand 54
Price Elasticity of Supply 56
2.4 Elasticity in the Long Run versus the Short Run 56
Greater Elasticity in the Long Run Than in the Short Run 56
Greater Elasticity in the Short Run Than in the Long Run 58
2.5 Back-of-the-Envelope Calculations 59
Fitting Linear Demand Curves Using Quantity, Price, and Elasticity Information 60
Identifying Supply and Demand Curves on the Back of an Envelope 61
Identifying the Price Elasticity of Demand from Shifts in Supply 63
Appendix Price Elasticity of Demand Along a Constant Elasticity Demand Curve 74
Part 2 Consumer Theory
Chapter 3 Consumer Preferences and the Concept of Utility 75
Why Do You Like What You Like?
3.1 Representations of Preferences 77
Assumptions About Consumer Preferences 77
Ordinal and Cardinal Ranking 79
3.2 Utility Functions 80
Preferences with a Single Good: The Concept of Marginal Utility 80
Preferences with Multiple Goods: Marginal Utility, Indifference Curves, and the Marginal Rate of Substitution 84
3.3 Special Preferences 95
Perfect Substitutes 95
Perfect Complements 96
The Cobb–Douglas Utility Function 97
Quasilinear Utility Functions 98
Chapter 4 Consumer Choice 105
How Much of What You Like Should You Buy?
4.1 The Budget Constraint 107
How Does a Change in Income Affect the Budget Line? 109
How Does a Change in Price Affect the Budget Line? 109
4.2 Optimal Choice 112
Using the Tangency Condition to Understand When a Basket is Not Optimal 116
Finding an Optimal Consumption Basket 117
Two Ways of Thinking About Optimality 118
Corner Points 120
4.3 Consumer Choice with Composite Goods 123
Application: Coupons and Cash Subsidies 123
Application: Joining a Club 127
Application: Borrowing and Lending 128
Application: Quantity Discounts 133
4.4 Revealed Preference 134
Are Observed Choices Consistent with Utility
Maximization? 135
Appendix 1 The Mathematics of Consumer Choice 145
Appendix 2 The Time Value of Money 146
Chapter 5 The Theory of Demand 152
Why Understanding the Demand for Cigarettes is Important for Public Policy
5.1 Optimal Choice and Demand 154
The Effects of a Change in Price 154
The Effects of a Change in Income 157
The Effects of a Change in Price or Income: An Algebraic Approach 162
5.2 Change in the Price of a Good: Substitution Effect and Income Effect 164
The Substitution Effect 165
The Income Effect 165
Income and Substitution Effects When Goods are Not Normal 167
5.3 Change in the Price of a Good: The Concept of Consumer Surplus 175
Understanding Consumer Surplus from the Demand Curve 175
Understanding Consumer Surplus from the Optimal Choice Diagram: Compensating Variation and Equivalent Variation 177
5.4 Market Demand 184
Market Demand with Network Externalities 186
5.5 The Choice of Labor and Leisure 189
As Wages Rise, Leisure First Decreases, Then Increases 189
The Backward-Bending Supply of Labor 191
5.6 Consumer Price Indices 195
Part 3 Production and Cost Theory
Chapter 6 Inputs and Production Functions 204
Can They Do It Better and Cheaper?
6.1 Introduction to Inputs and Production Functions 206
6.2 Production Functions with a Single Input 208
Total Product Functions 209
Marginal and Average Product 210
Relationship Between Marginal and Average Product 214
6.3 Production Functions with More Than One Input 214
Total Product and Marginal Product with Two Inputs 214
Isoquants 216
Economic and Uneconomic Regions of Production 220
Marginal Rate of Technical Substitution 221
6.4 Substitutability Among Inputs 223
Describing a Firm’s Input Substitution Opportunities Graphically 224
Elasticity of Substitution 226
Special Production Functions 229
6.5 Returns to Scale 234
Definitions 234
Returns to Scale versus Diminishing Marginal Returns 237
6.6 Technological Progress 237
Appendix The Elasticity of Substitution for a Cobb–Douglas Production Function 247
Chapter 7 Costs and Cost Minimization 249
What’s Behind the Self-Service Revolution?
7.1 Cost Concepts for Decision Making 251
Opportunity Cost 251
Economic versus Accounting Costs 254
Sunk (Unavoidable) versus Nonsunk (Avoidable) Costs 255
7.2 The Cost-Minimization Problem 257
Long Run versus Short Run 257
The Long-Run Cost-Minimization Problem 258
Isocost Lines 259
Graphical Characterization of the Solution to the Long-Run Cost-Minimization Problem 260
Corner Point Solutions 262
7.3 Comparative Statics Analysis of the Cost-Minimization Problem 264
Comparative Statics Analysis of Changes in Input Prices 264
Comparative Statics Analysis of Changes in Output 268
Summarizing the Comparative Statics Analysis: The Input Demand Curves 269
The Price Elasticity of Demand for Inputs 271
7.4 Short-Run Cost Minimization 273
Characterizing Costs in the Short Run 274
Cost Minimization in the Short Run 276
Comparative Statics: Short-Run Input Demand versus Long-Run Input Demand 277
More Than One Variable Input in the Short Run 278
Appendix Advanced Topics in Cost Minimization 285
Chapter 8 Cost Curves 289
How Can HiSense Get a Handle on Costs?
8.1 Long-Run Cost Curves 291
Long-Run Total Cost Curve 291
How Does the Long-Run Total Cost Curve Shift When Input Prices Change? 293
Long-Run Average and Marginal Cost Curves 296
8.2 Short-Run Cost Curves 306
Short-Run Total Cost Curve 306
Relationship Between the Long-Run and the Short-Run Total Cost Curves 307
Short-Run Average and Marginal Cost Curves 309
Relationships Between the Long-Run and the Short-Run Average and Marginal Cost Curves 310
When are Long-Run and Short-Run Average and Marginal Costs Equal, and When are They Not? 311
8.3 Special Topics in Cost 314
Economies of Scope 314
Economies of Experience: The Experience Curve 317
8.4 Estimating Cost Functions 319
Constant Elasticity Cost Function 320
Translog Cost Function 320
Appendix Shephard’s Lemma and Duality 327
Part 4 Perfect Competition
Chapter 9 Perfectly Competitive Markets 331
A Rose is a Rose is a Rose
9.1 What is Perfect Competition? 333
9.2 Profit Maximization by a Price-Taking Firm 336
Economic Profit versus Accounting Profit 336
The Profit-Maximizing Output Choice for a Price-Taking Firm 338
9.3 How the Market Price is Determined: Short-Run Equilibrium 341
The Price-Taking Firm’s Short-Run Cost Structure 341
Short-Run Supply Curve for a Price-Taking Firm When All Fixed Costs are Sunk 343
Short-Run Supply Curve for a Price-Taking Firm When Some Fixed Costs are Sunk and Some are Nonsunk 345
Short-Run Market Supply Curve 349
Short-Run Perfectly Competitive Equilibrium 352
Comparative Statics Analysis of the Short-Run Equilibrium 353
9.4 How the Market Price is Determined: Long-Run Equilibrium 356
Long-Run Output and Plant-Size Adjustments by Established Firms 356
The Firm’s Long-Run Supply Curve 357
Free Entry and Long-Run Perfectly Competitive Equilibrium 358
Long-Run Market Supply Curve 360
Constant-Cost, Increasing-Cost, and Decreasing-Cost Industries 362
What Does Perfect Competition Teach Us? 370
9.5 Economic Rent and Producer Surplus 371
Economic Rent 371
Producer Surplus 374
Economic Profit, Producer Surplus, Economic Rent 380
Appendix Profit Maximization Implies Cost Minimization 388
Chapter 10 Competitive Markets: Applications 390
Is Support a Good Thing?
10.1 The Invisible Hand, Excise Taxes and Subsidies 392
The Invisible Hand 393
Excise Taxes 394
Incidence of a Tax 398
Subsidies 402
10.2 Price Ceilings and Floors 404
Price Ceilings 405
Price Floors 412
10.3 Production Quotas 417
10.4 Price Supports in the Agricultural Sector 421
Acreage Limitation Programs 422
Government Purchase Programs 422
10.5 Import Quotas and Tariffs 426
Quotas 426
Tariffs 429
Part 5 Market Power
Chapter 11 Monopoly and Monopsony 442
Why Do Firms Play Monopoly?
11.1 Profit Maximization by a Monopolist 444
The Profit-Maximization Condition 444
A Closer Look at Marginal Revenue: Marginal Units and Inframarginal Units 448
Average Revenue and Marginal Revenue 449
The Profit-Maximization Condition Shown Graphically 451
A Monopolist Does Not Have a Supply Curve 453
11.2 The Importance of Price Elasticity of Demand 454
Price Elasticity of Demand and the Profit-Maximizing Price 454
Marginal Revenue and Price Elasticity of Demand 455
Marginal Cost and Price Elasticity of Demand: The Inverse Elasticity Pricing Rule 457
The Monopolist Always Produces on the Elastic Region of the Market Demand Curve 458
The IEPR Applies Not Only to Monopolists 460
Quantifying Market Power: The Lerner Index 461
11.3 Comparative Statics for Monopolists 462
Shifts in Market Demand 462
Shifts in Marginal Cost 465
11.4 Monopoly with Multiple Plants and Markets 467
Output Choice with Two Plants 467
Output Choice with Two Markets 469
Profit Maximization by a Cartel 470
11.5 The Welfare Economics of Monopoly 473
The Monopoly Equilibrium Differs from the Perfectly Competitive Equilibrium 473
Monopoly Deadweight Loss 475
Rent-Seeking Activities 475
11.6 Why Do Monopoly Markets Exist? 475
Natural Monopoly 476
Barriers to Entry 477
11.7 Monopsony 479
The Monopsonist’s Profit-Maximization Condition 479
An Inverse Elasticity Pricing Rule for Monopsony 481
Monopsony Deadweight Loss 482
Chapter 12 Capturing Surplus 489
Why Did Your Carpet or Your Airline Ticket Cost So Much Less Than Mine?
12.1 Capturing Surplus 491
12.2 First-Degree Price Discrimination: Making the Most from Each Consumer 494
12.3 Second-Degree Price Discrimination: Quantity Discounts 499
Block Pricing 499
Subscription and Usage Charges 502
12.4 Third-Degree Price Discrimination: Different Prices for Different Market Segments 505
Two Different Segments, Two Different Prices 505
Screening 508
Third-Degree Price Discrimination with Capacity Constraints 510
Implementing the Scheme of Price Discrimination: Building “Fences” 512
12.5 Tying (Tie-In Sales) 516
Bundling 517
Mixed Bundling 519
12.6 Advertising 522
Part 6 Imperfect Competition and Strategic Behavior
Chapter 13 Market Structure and Competition 532
Is Competition Always the Same? If Not, Why Not?
13.1 Describing and Measuring Market Structure 534
13.2 Oligopoly with Homogeneous Products 537
The Cournot Model of Oligopoly 537
The Bertrand Model of Oligopoly 545
Why are the Cournot and Bertrand Equilibria Different? 547
The Stackelberg Model of Oligopoly 548
13.3 Dominant Firm Markets 550
13.4 Oligopoly with Horizontally Differentiated Products 553
What is Product Differentiation? 553
Bertrand Price Competition with Horizontally Differentiated Products 556
13.5 Monopolistic Competition 562
Short-Run and Long-Run Equilibrium in Monopolistically Competitive Markets 562
Price Elasticity of Demand, Margins, and Number of Firms in the Market 564
Do Prices Fall When More Firms Enter? 564
Appendix The Cournot Equilibrium and the Inverse Elasticity Pricing Rule 574
13.1 Computing a Cournot Equilibrium 540
13.2 Computing the Cournot Equilibrium for Two or More Firms with Linear Demand 544
13.3 Computing the Equilibrium in the Dominant Firm Model 552
13.4 Computing a Bertrand Equilibrium with Horizontally Differentiated Products 560
Chapter 14 Game Theory and Strategic Behavior 575
What’s in a Game?
14.1 The Concept of Nash Equilibrium 577
A Simple Game 577
The Nash Equilibrium 578
The Prisoners’ Dilemma 578
Dominant and Dominated Strategies 579
Games with More Than One Nash Equilibrium 583
Mixed Strategies 586
Summary: How to Find All the Nash Equilibria in a Simultaneous-Move Game with Two Players 588
14.2 The Repeated Prisoners’ Dilemma 588
14.3 Sequential-Move Games and Strategic Moves 594
Analyzing Sequential-Move Games 594
The Strategic Value of Limiting One’s Options 597
Part 7 Special Topics
Chapter 15 Risk and Information 608
Risky Business
15.1 Describing Risky Outcomes 610
Lotteries and Probabilities 610
Expected Value 612
Variance 612
15.2 Evaluating Risky Outcomes 615
Utility Functions and Risk Preferences 615
Risk-Neutral and Risk-Loving Preferences 618
15.3 Bearing and Eliminating Risk 621
Risk Premium 621
When Would a Risk-Averse Person Choose to Eliminate Risk? The Demand for Insurance 624
Asymmetric Information in Insurance Markets: Moral Hazard and Adverse Selection 627
15.4 Analyzing Risky Decisions 633
Decision Tree Basics 633
Decision Trees with a Sequence of Decisions 635
The Value of Information 637
15.5 Auctions 639
Types of Auctions and Bidding Environments 640
Auctions When Bidders Have Private Values 641
Auctions When Bidders Have Common Values: The Winner’s Curse 645
Chapter 16 General Equilibrium Theory 654
How Do Gasoline Taxes Affect the Economy?
16.1 General Equilibrium Analysis: Two Markets 656
16.2 General Equilibrium Analysis: Many Markets 660
The Origins of Supply and Demand in a Simple Economy 660
The General Equilibrium in Our Simple Economy 666
Walras’ Law 670
16.3 General Equilibrium Analysis: Comparative Statics 671
16.4 The Efficiency of Competitive Markets 675
What is Economic Efficiency? 675
Exchange Efficiency 676
Input Efficiency 682
Substitution Efficiency 684
Pulling the Analysis Together: The Fundamental Theorems of Welfare Economics 687
16.5 Gains from Free Trade 688
Free Trade is Mutually Beneficial 688
Comparative Advantage 692
Appendix Deriving the Demand and Supply Curves for General Equilibrium in Figure 16.9 and Learning-by-Doing Exercise 16.2 698
Chapter 17 Externalities and Public Goods 703
When Does the Invisible Hand Fail?
17.1 Introduction 705
17.2 Externalities 706
Negative Externalities and Economic Efficiency 708
Positive Externalities and Economic Efficiency 722
Property Rights and the Coase Theorem 726
17.3 Public Goods 728
Efficient Provision of a Public Good 729
The Free-Rider Problem 732
Mathematical Appendix 739
Solutions to Selected Problems 759
Glossary 781
Index 789
