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Summary Microeconomics, institutions and welfare
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WHAT IS ECONOMICS?Economics is the study of how people interact with each other and with their natural
surroundings in producing their livelihoods, and how this changes over time.
Economics is about how economic agents allocate scarce resources to maximize their
utility/profit/output.
MEASURING WELFARE
GDP per capita: all the services/goods produced in a year in a country
Growing economic development issues:
- Technology= a process that uses inputs to produce an output
→ reducing the amount of work-time to produce certain things
Working productivity Increased by two revolutions:
Industrial revolution = a wave of technological advances starting in britain in the 18th
century, which transformed an agrarian and craft-based economy into a commercial and
industrial economy.
Technology → makes communication possible → improves communication speed.
- was labour intensive before the industrial revolution
Capitalism revolution = who owns certain technology productions
Let to growth in living standards
- Specialization: the growth of firms and the expansion of markets linking the entire
world allowed historically unprecedented specialization in tasks and production
- Specialization is possible when people can acquire other goods via markets
- Impact on technology: Firms competing in markets had strong incentives to adopt and
develop new technologies.
- Learning by doing
- Taking advantages of natural differences in skill and talent
- economies of scale
Differences in capitalism’s success due to:
1. Ownership/property laws
2. competitiveness of markets → is less because of planned economy → less
innovation, so less growth/development
3. Quality of institutions
WHY NEEDS ECONOMIC MODELS
● To understand the causes and the consequences of
- The industrial revolution, firm , growth, unemployment, the financial crisis, the
digital revolution
- refugee crisis, poverty, gender inequality, climate change etc
, ● To guide us to decide what we (governments, firms, individuals) should do if we want
to reach our goals:
- short term profit maximization
- equality
- continuity
- becoming a millionaire
- spending time with your family and friends
- an inhabitable planet
GOAL FIRMS
- minimize inputs -->they choose between technologies (specific combinations of
inputs) to produce outputs
Isoquant: All input combinations that yield the same output (=minimum required quantity of
inputs)
Marginal rate of technical substitution (MRTS) or MRS, marginal rate of transformation
= Amount by which the quantity of an input can be reduced when one extra unit of another
input is used, so that output remains constant.
Mrts of labour for capital is the amount by which capital can be reduced when one extra unit
of labour is used.
Formula: -delta K / delta L
The derivative of a budget constraint/feasible contrier is the MRS = marginal rate of
transformation → relative price
FIRMS CHOICE
- Firms aims to maximize profit and minimize cost
- the firm's choice of technology depends on economic information about relative
prices of inputs
Iso Cost lines
= combinations of inputs that give the same cost (=slope = relative price of inputs)
Choosing labour intensive or capital intensive → depends on which had lower costs
OPTIMIZATION PROBLEM
- Given the desired level of q, find the lowest point C
→ where the isocost line crossed the q line= same output and minimum cost =
Tangent point
- Or increase the level of q, to find the minimum cost of that q
THE LAW OF DIMINISHING AVERAGE PRODUCT OF LABOUR
If we hold one input (land) fixed, and expand the other input (labour), the average output per
worker is going to fall.
→ production function gives maximum output for a given set of input.
,MALTHUS MODEL
key ideas:
- Population expands if living standards increase
- But the law of diminishing average product of labour implies that as more people
work on the land, their income will inevitably fall.
In equilibrium = living standards will be forced down to subsistence level. Population and
income will stay constant.
3 conditions required for malthusian trap:
- Diminishing average product of labour
- rising population in response to increase wages
- an absence of improvements in technology to offset the diminishing average product
of labour. → Because of the technological revolution this one does not hold
anymore. (in the 18th century → no malthus model anymore)
Finally → GDP per capita growth → people worked less
TRADEOFFDS AND CHOICES BY INDIVIDUALS
Depends on preferences
- Indifference curve show all combinations that give the same utility (satisfaction) →
is personal
- The derreritave of the indifference curve = The marginal rate of substitution = Is
the slope of the indifference curve, and represents the tradeoffs that an individual
faces.
To see the relation between free time and labour:
- Use a model of individual choice to explain differences in work hours across
countries and over time. → indifference curve
→ PRODUCTION FUNCTION=
show how inputs (such as labour) translate into outputs (goods and services) holding other
factors constant ceterius paribus (production environment). → included diminishing marginal
product
WHAT CAN PRODUCTION FUNCTIONS TELL US?
- Marginal product = Change in output per unit change in input (evaluated at a given
point, holding other inputs constant)
- Average product = average output per unit of input.
- Diminishing marginal product= Studying becomes less productive, the more you
study. → a concave function
, Marginal product → positive
MIRROR OF THE PRODUCTION FUNCTION
The border is the feasible frontier that show the maximum output that can be achieved with a
given amount of input.
Together with the feasible set → a collection of combinations that can be produced.
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