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In this report, the basic introduction of macroeconomics and microeconomics will be shown in five sections. Section one will explain the problems of scarcity and choice, the concept of opportunity cost and the difference between micro and macro economics. Section two will discuss how individual demand and market demand curve is derived, output decision in the short-run and in the long-run. Section three shows demand and supply theory including how to achieve an equilibrium price and equilibrium quantity, the effects of excess supply and demand on market equilibrium. Section four explains the meanings of perfect competition and oligopoly. Section five introduces Keynesian economics and monetarist economics.
Section 1. Basic information of economics
Part 1. (A) A definition of economics
Economics is a kind of study telling people how to choose limited resources. In reality, resources in our life include land, time, wealth, talent people, building and the knowledge of how to combine these resources to make optimal goods and services. Many countries and regions are lack of resources. Therefore how to choose resources could be a very important thing for governments or individuals. (Begg, D., 2008)
How to make optimal choice in resources is a big question. Important choices include how much time devote to go shopping, leisure, how many to save and how to combine their resources to improve their welfare and well-being. If we suppose resources are indefinite, optimal choices still could not be made properly, let alone we are living in a world with limited resources. Well-being means people feel satisfaction from their gaining of goods and services they choose to consume, from the time they spend in leisure, from security and services provided by governments, from the job they work in. However, people choose to use their resources in ways that may not take effect in improving their happiness and well-beings.
The key point we need to know how it is so important to choose resources is that resources in fact is scare, whether we can choose resources and combine them to make optimal goods and services will determine our life.
Part 1. (B) Scare resources and opportunity cost
Available resources are very limited, how fast we can improve our life depends on what kind of resources we have. Politics is based on the economy of a country; humans become civilized because of the development in economy. The original reasons are due to the scarcity of resources.
Therefore we have to make choices in combining different kinds of resources to make goods and services in order to improve our life. We cannot take all choices at the same time. While we are taking one choice, to some extend it also means that we are losing opportunity in choosing others. Theoretically, the value of the next best choice to some who has picked between several mutually exclusive choices is the opportunity costs. The thing is that we cannot always make an optimal choice in our life; opportunity cost becomes one of the most important indicators assessing our behaviors and decisions.
While the opportunity costs are very high, it indicates that the choice we are choosing is not optimal; in the same way, if the opportunity costs are lower, it means that we are making right decisions in making goods and services. The opportunities costs are not restricted by financial or monetary costs (Buchanan, 1987).
For example, a person can have chance to get a job for 10,000 pounds per year and at the same time, he can also choose to go to the university. If he chooses the job, then he is not able to go to the university right away. Consequently, the opportunity cost for him to work is not going to the university.
Part 1. (c) The difference between micro and macro economics
Economics can be divided into two areas, Microeconomics and Macroeconomics. From my opinion, Microeconomics is concerned with small parts of the economy such as the individual on the firm and with issues such as supply and demand. For example, if you go to a supermarket, you buy a bottle of water from it, therefore, the supermarket is supplier and their supply just matches your demand. Macroeconomics is concerned with the economy as a whole and issues such as inflation, interest rates and unemployment. For instance, if there is a high inflation rate in somewhere, it will cause a higher price of goods and decreased real value of money.
Microeconomics studies the individual behaviors, industry organizations, such as Consumer's Behavior and Production Theory. And macroeconomics studies the general consumption, investment, government expenditure and net exports in an open economy, such as National Income Account and Inflation. Although they are different, they still mutually affect because of overlapping issues between the two fields. For example, inflation is macro effect which cause raw materials prices go up, in a result, the product's price will be higher.
Section 2. Demand curve
Part 2.(A) Individual demand curve and market demand curve.
In economics, individual demand curve is used to describe the relationship between price and quantity of a specific commodity that a consumer is willing to buy at a given price in a specific time period. Actually, there is inverse relationship between prices and quantity of the goods.
For example, both A and B got cars and they use it every day normally. However, due to the increased price from £0.5 to £1.00, A and B started to reduce the frequency of using cars. As the price is going up, they reduce the time of using cars. And when the price increases to a high level at £8.00, A gives up using a car and buys a bike instead; B lives far away from city, and he still need a car. Because of the high price of petrol, B prefer go out by train most of times. So, he only uses 5 Liter per week. We can describe how the individual demand curve is derived in the diagram.
Therefore, when the price goes up, the demand will decrease. On the contrary, the price increases will cause lower demand.
Market demand curve is the sum of individual demands. It is also a downward sloping line.
Part 2. (B) Firm's output decision in the short-run.
In order to make things simple and clear, we suppose the firm make output decision under perfect competition. It means that firms are producing homogeneous goods, there are no entry/exit barriers, there is perfect information and firms would like to maximize their profits. Under perfect competition, price is given in the market, and average revenue (AR) is equal to marginal revenue (MR) and demand. When the MC is equal to MR, then the firm will get maximum output.
Under perfect competition, firms choose output when price equals to marginal cost (p=mc). Therefore, MC curve will tell us how much firm will produce in both short and long run. In Figure 2, we can observe that the output of a firm is Q when MC=MR and AR under perfect competition.
In the short run, average total costs (ATC) is the same of average variable costs (AVC) and average fixed costs (AFC), and firms will produce when MC is more than AVC (average variable costs) because every unit they produce will be more than add more to avenue than costs and AFC is fixed in the short run and have to be paid. Therefore, in the short run, if the MC is equal to or above to ATC, then firms will produce and the MC above ATC is also called short-run firm's supply curve (see Fig 3).
However, compared with short run, under which firm will produce as long as MC is more than AVC, firms will shut down when MC is less than ATC in the long run because average variable costs are average total costs in the long run. Only when MC is more than or equal to ATC, then every unit firms produce will add more avenue than costs, otherwise, firms will shut down when MC is less than ATC. In the long run, as long as the MC is more than ATC, then the firm will produce. In Figure 4, the MC above ATC is the long supply curve under perfect competition.
In this section, we will discuss the supply and demand in equilibrium, in the first part, we will discuss the equilibrium price and quantity and the second and third part, and we will discuss the situation when there is excess demand and supply.
Part 3. (A) Equilibrium price and equilibrium quantity
Economics equilibrium tells us that supply will equal to demand (Arrow, 1959). The equilibrium price and equilibrium quantity will be achieved when supply equals to demand. Market equilibrium tells us demand of goods and services from consumers should be equal to the supply of goods and services from suppliers. In Figure 5, we can observe that demand curve is a downward slope curve indicating that there is negative relationship between price and quantity of goods and services; but supply curve is a upward sloping line indicating that when price is increasing, the supplier would like to provide more goods and services, in other words, there is positive relationship between price and quantity of goods and services in supply curve.
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