Microeconomics

What if we told you that there exists a story in which you as an individual are the main character? Yes, that's true! The phrase that 'microeconomics' is everywhere around you is overused, we know. You may think so is mathematics, biology, chemistry... But at StudySmarter, we don't just state things. We can actually show you this world! What if we invited you on a journey of storytelling that would show you that microeconomics is around you at all times? If you are one of the adventure-seekers, join us to see how the journey into Microeconomics Land unfolds when you take part in it!

Microeconomics Topics and Learning Objectives

At StudySmarter, your learning needs are always at the center! That is why we cover all the essential microeconomics topics. From basic principles of consumer rationality to government intervention in markets and much more!

• Here's a brief summary of the microeconomics topics you can start learning today:- Economic principles- Supply and demand- Firm's production- Factor markets- Perfect and imperfect competition- Market efficiency

And because we promised we would take you on an adventure journey, grab your map, and let's get going! Why did we mention a map? A map is a good analogy that will help you understand the purpose of models used in microeconomics. A map can show you how to get from where you are to where you need to be. Schematically, it makes you understand how to get where you want to go. The models in microeconomics are just like that map! They help guide our thinking and understanding of how the world works, but they don't represent reality perfectly. Rather than complaining when the model doesn't work, we need to try to understand why it doesn't! Ultimately, like the map, microeconomics models help us achieve more extraordinary things in real life!

Fig. 1 - Microeconomics models are akin to maps

Microeconomics: Economic principles

Economic principles are at the heart of microeconomics. But where do they come from? As you are the main character in our journey, let's begin with you! When you get up in the morning, which cereal do you decide to eat? Do you ever mix two or more types of cereal together? Yes, in microeconomics, such questions possibly stood at the very beginning of consumer choice theory. Other decisions such as whether to mix cereal or not, alongside many others you make. How you decide whether to work or not, how much time to dedicate to studying, your health, and how much to the well-being of your household.

As economic resources are scarce, you have developed a set of techniques that helps you identify what choices you make under certain constraints. Although primarily guided by the assumption of consumer rationality, behavioral insights also help in shaping the understanding of how you make your choices when you, for example, are scared to lose something more than you are afraid of not getting something in the first place. This system of choice-making applies to other individual economic agents such as a firm, an industry, or an entire market. And depending on how the resources are allocated between competing uses, different economic systems develop.

Microeconomics: Supply and demand

Now that you have definitely established your view on whether to mix two or more types of cereal together or not let's take a look at where this cereal comes from. How do the market forces operate? Well, in microeconomics, we start by looking at individual demand. This is a different schedule you have for each type of good that will give the answer to the quantity you would demand at each price point. These individual schedules are then summed up to make a market demand schedule for a particular product! The same is happening on the firm side, where they have their own schedules, but for supply. They decide how much of each product to produce at each price level. When things work out the right way, equilibrium in the market is formed. This happens where demand is equal to supply. There can be changes in equilibrium, of course, based on the relative elasticities of demand and supply and on government intervention in the market. Price ceilings, price floors, taxes, and subsidies would all affect how much is produced and consumed in the end.

Fig. 2 - Supply and demand

Microeconomics: Firm's production

Since we have been talking about cereal, which one is your favorite? It may be different from your friends' favorite or your parents' favorite. As individuals have varying tastes, firms try to find out what the consumers want and provide it to them. This firm's production is another aspect that microeconomics studies because the firm is treated as an individual unit. Firms incur costs of production when delivering the product to you. They can experience economies and diseconomies of scale. But just like you want to maximize your utility from consuming that bowl of cereal, firms want to maximize their profits. No one would like to provide you with products at a loss to themselves! Depending on whether the firms are going for profits only in the short-run or planning for a longer horizon, their entry and exit decisions will shape the market structure that they are in. The market for cereal, for example, is a market characterized by the features of monopolistic competition. There are a lot of producers competing for their cereal to be in your bowl! Their products are considered to be only slightly differentiated - it's all cereal, after all!

Fig. 3 - Increasing returns to scale and economies of scale

Microeconomics: Factor markets

Imagine now that you were so inspired by a cereal brand that you decided to go and work for that company. You will discover a whole new world there that makes production possible. Scarce resources, when used for supply, are called factors of production in microeconomics. So to make cereals, your company needs these factors of production. In economics, they are classified into four categories: land, labor, capital, and enterprise. Depending on whether more machinery is required to make cereal, more ingredients, or more labor, your firm will adjust its factor demand for those resources. On the other end, there will be firms that are in the business of supplying those production factors, and your firm will try to strike a deal to make their cereal at an optimal cost.

Fig. 4 - Factors of production

Microeconomics: Labor market

The labor market is one of the factor markets in microeconomics. But it is arguably the most important one because, without humans, nothing would work! That is why it is important for firms to hire and retain labor and manage their productive potential. If you decided to work for your favorite cereal brand, you would make specific considerations with regard to your labor supply. You would, for example, consider whether the compensation that you are getting provides you with enough budget and utility, and you would choose how much time you want to allocate to your job. So does the firm that hires you, but their decision-making involves a bit more factors than simply the cost of hiring you. Using marginal productivity theory, firms can gauge whether an additional employee will bring on an increase or a decrease in the total product. Because labor is not a simple factor of production, as, say, a raw material, such as corn or wheat, for your cereal, a lot of variations can occur. Labor interacts with other factors of production and can have varying degrees of productivity. Because labor is such an essential factor of production, there are specific tools in place that the governments in a lot of countries around the world endorsed to protect worker rights. Trade unions, for example, ensure that the workers' interests are met and that they have appropriate working conditions and are not paid below the national minimum wage.

Fig. 5 - Labor demand curve

Microeconomics: Perfect and imperfect competition

As you are now familiar with how you got that bowl of cereal for breakfast, let's think about what would be the chances of you actually buying it if it was ten times the price? It is likely that you probably would at least reconsider whether it's worth buying that favorite cereal on a regular basis. Since we already mentioned that the cereal market has features of monopolistic competition, does it explain the price that you pay for your product? A lot of it, yes! If there was a more extreme case of imperfect competition, say a monopoly cereal producer, then it would charge a very high price for the product since you wouldn't be able to get it anywhere else. But because there are many firms competing, you get that cereal at an affordable price, which is excellent as it's a daily necessity. The degree of competition in the market is studied in microeconomics to assess the costs and the benefits to society that the market allocation yields. A theoretical framework of perfect competition serves as a benchmark when evaluating various real-world market structures and their effects on consumer welfare.

Fig. 6 - The spectrum of market structures

Microeconomics: Market efficiency

We are almost at the end of our journey, and the individual goods markets are as far as we will travel in microeconomics. Beyond this realm is macroeconomics, but this will be a whole different journey! Price and quantity allocation that happens through the market mechanism aims to ensure that there is no deadweight loss to society and that the markets are functioning optimally. And if they don't, there is public policy to back them up. Variations of public policy such as regulation, deregulation, privatization, and nationalization have been used in the past and continue to be used when markets fail to function. In cases of externalities, the government also steps in to bring the markets back to the socially optimal point. Sometimes, when goods can't be provided by the free market, the government provides them, and these are called public goods. Street lighting, defense, and even education are some examples of public goods. This ensures not only that these goods are provided in the first place but also that those who need them the most have access to them at all times.

Fig. 7 - Optimal Pigouvian tax to correct a negative externality

We have almost reached the end of our journey in Microeconomics Land, and hopefully, you have found it enjoyable! We hope to see you soon on another trip with us at StudySmarter!

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Microeconomics Revision Guide

At this point, you are probably not surprised that StudySmarter can support you with creating your own microeconomics revision guide! Discover the tools that you can start using now to do well in your microeconomics courses and exams below!

Microeconomics summaries