Theory and Applications of Microeconomics

828 Pages·2012·29.95 MB·English

Theory and Applications
of Microeconomics
v. 1.0
This is the bookTheory and Applications of Microeconomics(v. 1.0).
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Table of Contents
About the Authors................................................................................................................. 1
Acknowledgments................................................................................................................. 2
Dedications............................................................................................................................. 3
Preface..................................................................................................................................... 4
Chapter 1: What Is Economics?.......................................................................................... 8
Microeconomics in a Fast-Food Restaurant................................................................................................9
Macroeconomics in a Fast-Food Restaurant.............................................................................................13
What Is Economics, Really?.........................................................................................................................16
End-of-Chapter Material.............................................................................................................................18
Chapter 2: Microeconomics in Action............................................................................. 20
Four Examples of Microeconomics............................................................................................................21
The Microeconomic Approach...................................................................................................................27
End-of-Chapter Material.............................................................................................................................34
Chapter 3: Everyday Decisions......................................................................................... 36
Individual Decision Making: How You Spend Your Income....................................................................38
Individual Demand.......................................................................................................................................58
Individual Decision Making: How You Spend Your Time........................................................................78
End-of-Chapter Material.............................................................................................................................89
Chapter 4: Life Decisions................................................................................................... 94
Consumption and Saving.............................................................................................................................96
Using Discounted Present Values.............................................................................................................121
Avoiding Risk..............................................................................................................................................133
Embracing Risk...........................................................................................................................................145
End-of-Chapter Material...........................................................................................................................151
Chapter 5: eBay and craigslist........................................................................................ 156
craigslist and the Gains from Trade.........................................................................................................161
eBay.............................................................................................................................................................171
Supply and Demand...................................................................................................................................180
Production Possibilities.............................................................................................................................193
End-of-Chapter Material...........................................................................................................................211
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Chapter 6: Where Do Prices Come From? .................................................................... 215
The Goal of a Firm......................................................................................................................................217
The Revenues of a Firm.............................................................................................................................223
The Costs of a Firm.....................................................................................................................................244
Markup Pricing: Combining Marginal Revenue and Marginal Cost.....................................................250
The Supply Curve of a Competitive Firm.................................................................................................259
End-of-Chapter Material...........................................................................................................................265
Chapter 7: Why Do Prices Change?................................................................................ 269
Market Supply and Market Demand........................................................................................................274
Using the Supply-and-Demand Framework............................................................................................285
Another Perspective on Changing Prices................................................................................................297
Three Important Markets.........................................................................................................................307
Beyond Perfect Competition.....................................................................................................................317
End-of-Chapter Material...........................................................................................................................324
Appendix: Algebraic Presentation of Supply and Demand....................................................................327
Chapter 8: Growing Jobs.................................................................................................. 330
How Do Firms Decide How Many Hours of Labor to Hire?....................................................................335
Entry and Exit.............................................................................................................................................357
Search..........................................................................................................................................................368
Government Policies..................................................................................................................................376
End-of-Chapter Material...........................................................................................................................380
Chapter 9: Making and Losing Money on Wall Street............................................... 384
A Walk Down Wall Street..........................................................................................................................388
The Value of an Asset................................................................................................................................398
Asset Markets and Asset Prices................................................................................................................407
Efficient Markets........................................................................................................................................416
End-of-Chapter Material...........................................................................................................................428
Appendix: A General Formulation of Discounted Present Value..........................................................432
Chapter 10: Raising the Wage Floor.............................................................................. 434
Nominal Wages and Real Wages...............................................................................................................439
The Effects of a Minimum Wage...............................................................................................................448
Minimum Wage Changes...........................................................................................................................456
The Minimum Wage and the Distribution of Income.............................................................................462
Empirical Evidence on Minimum Wages.................................................................................................470
End-of-Chapter Material...........................................................................................................................480
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Chapter 11: Barriers to Trade and the Underground Economy ............................. 485
How the Government Controls What You Buy and Sell.........................................................................489
Limits on Trade across Borders................................................................................................................512
Government and the Labor Market..........................................................................................................520
End-of-Chapter Material...........................................................................................................................526
Chapter 12: Superstars .................................................................................................... 530
Facts about Inequality...............................................................................................................................534
The Sources of Inequality..........................................................................................................................548
Distributive Justice....................................................................................................................................559
Government Policy....................................................................................................................................570
End-of-Chapter Material...........................................................................................................................575
Chapter 13: Cleaning Up the Air and Using Up the Oil............................................. 579
The Economics of Clean Air......................................................................................................................585
Externalities................................................................................................................................................597
Renewable, Nonrenewable, and Accumulable Resources......................................................................612
End-of-Chapter Material...........................................................................................................................624
Appendix: An Example of the Hotelling Rule in Operation...................................................................627
Chapter 14: Busting Up Monopolies.............................................................................. 629
Market Power and Monopoly...................................................................................................................632
Patents and Copyright...............................................................................................................................645
Markets with a Small Number of Sellers.................................................................................................655
End-of-Chapter Material...........................................................................................................................672
Chapter 15: A Healthy Economy..................................................................................... 677
Supply and Demand in Health-Care Markets..........................................................................................682
Health Insurance........................................................................................................................................697
Government Policy....................................................................................................................................708
End-of-Chapter Material...........................................................................................................................715
Chapter 16: Cars................................................................................................................ 720
The Demand for Automobiles...................................................................................................................723
Supply of Cars.............................................................................................................................................738
Market Outcomes in the Automobile Industry.......................................................................................746
Policy Issues................................................................................................................................................752
End-of-Chapter Material...........................................................................................................................758
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Chapter 17: Microeconomics Toolkit............................................................................ 761
Individual Demand.....................................................................................................................................762
Elasticity......................................................................................................................................................766
The Labor Market.......................................................................................................................................768
Choices over Time......................................................................................................................................770
Discounted Present Value.........................................................................................................................772
The Credit Market......................................................................................................................................775
Expected Value...........................................................................................................................................777
Correcting for Inflation.............................................................................................................................779
Supply and Demand...................................................................................................................................782
Buyer Surplus and Seller Surplus.............................................................................................................786
Efficiency and Deadweight Loss...............................................................................................................789
Production Possibilities Frontier.............................................................................................................792
Comparative Advantage............................................................................................................................794
Costs of Production....................................................................................................................................796
Pricing with Market Power.......................................................................................................................799
Comparative Statics...................................................................................................................................802
Production Function..................................................................................................................................805
Nash Equilibrium.......................................................................................................................................808
Externalities and Public Goods.................................................................................................................811
Foreign Exchange Market.........................................................................................................................813
Percentage Changes and Growth Rates...................................................................................................816
Mean and Variance....................................................................................................................................817
Correlation and Causality..........................................................................................................................820
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About the Authors
Russell Cooper
Dr. Russell Cooper is a professor of economics at the European University Institute
in Florence, Italy. He has held positions at the University of Texas, Boston
University, the University of Iowa, and Yale University as well as numerous visiting
positions in Asia, Europe, North America, and South America. He has taught
principles of economics at many of these universities as well as numerous courses
to PhD students. Cooper’s research has focused on macroeconomics, labor
economics, monetary policy, and industrial organization. He received his PhD from
the University of Pennsylvania in 1982. He was elected Fellow of the Econometric
Society in 1997.
A. Andrew John
Andrew John is an associate professor of economics at Melbourne Business School,
Melbourne, Australia. He received his undergraduate degree in economics from the
University of Dublin, Trinity College, in 1981 and his PhD in economics from Yale
University in 1988. He has held academic appointments at Michigan State
University, the University of Virginia, and INSEAD. He has also held visiting
appointments at the University of Michigan, the Helsinki School of Economics and
Business Administration, and the University of Texas at Austin. He joined
Melbourne Business School in January 2009.
Andrew has consulting experience in the areas of marketing, economics, and
strategy. He has worked with clients in Australia, Europe, and throughout the Asia-
Pacific region. He has extensive experience in the pharmaceutical industry and has
also worked with firms in the consumer goods and consulting sectors.
Andrew has taught economics to undergraduates, PhD students, MBA students, and
executives. His research interests include state-dependent pricing models,
environmental economics, coordination games, and consumer boycotts. His
published research has appeared in top economics and business journals, including
American Economic Review,Quarterly Journal of Economics,Journal of Monetary
Economics,Economic Journal,Journal of Public Economics,Management Science,Sloan
Management Review, andJournal of Marketing. His work is widely cited in economics
journals.
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Acknowledgments
The authors would like to thank the following colleagues who have reviewed the
text and provided comprehensive feedback and suggestions for improving the
material:
• Ecrument Aksoy, Los Angeles Valley College
• Becca Arnold, San Diego Community College
• Bevin Ashenmiller, Occidental College
• Diana Bajrami, College of Alameda
• Michael Haupert, University of Wisconsin, LaCrosse
• Fritz Laux, Northeastern State University
• James Ranney, Pima Community College
• Brian Rosario, American River College
• Lynda M. Rush, California State Polytechnic University, Pomona
We thank Jahiz Barlas, Mariesa Herrmann, Mhairi Hopkins, Heidy Maritza, Marjan
Middelhoff-Cobben, and Kai Zhang, who provided outstanding research assistance
during the preparation of this textbook. Eleanor Cooper, Jason DeBacker, Huacong
Liu, and Shreemoy Mishra provided numerous comments and suggestions that
improved our presentation and content.
Lori Cerreto and Vanessa Gennarelli atUnnamed Publisherhave done a skillful job
of shepherding this book through to completion; we are very grateful indeed for all
their efforts.
We extend particular thanks to Joyce M. R. Cooper for her contributions in the early
stages of this project. Joyce Cooper played an integral role in the development of
the ideas for this book and helped to draft early versions of the chapters on
minimum wage and income taxes.
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Dedications
Russell Cooper
To my family and friends.
A. Andrew John
To Jill Klein and Parichat Phetluk.
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Preface
We have written a fundamentally different text for principles of economics, based
on two premises:
1. Students are motivated to study economics if they see that it relates to
their own lives.
2. Students learn best from an inductive approach, in which they are first
confronted with a question and then led through the process of how to
answer that question.
The intended audience of the textbook is first-year undergraduates taking courses
on the principles of macroeconomics and microeconomics. Many may never take
another economics course. We aim to increase their economic literacy both by
developing their aptitude for economic thinking and by presenting key insights
about economics that every educated individual should know.
Applications ahead of Theory
We present all the theory that is standard in books on the principles of
economics. But by beginning with applications, we also show studentswhythis
theory is needed.
We take the kind of material that other authors put in “applications boxes” and
place it at the heart of our book. Each chapter is built around a particular business
or policy application, such as (for microeconomics) minimum wages, stock
exchanges, and auctions, and (for macroeconomics), social security, globalization,
and the wealth and poverty of nations.
Why take this approach? Traditional courses focus too much on abstract theory
relative to the interests and capabilities of the average undergraduate. Students are
rarely engaged, and the formal theory is never integrated into the way students
think about economic issues. We provide students with a vehicle to understand the
structure of economics,andwe train them how to use this structure.
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