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Important Diagrams To Remember: Chapter 2 Competitive Markets: Demand and Supply
Important Diagrams To Remember: Chapter 2 Competitive Markets: Demand and Supply
(a) Demand of consumer A (b) Demand curve of consumer B (c) Market demand
price of chocolate bars ($)
P ($) P ($)
5 5 5
4 4 demands 4
of other
3 + 3 + consumers = 3
in the
2 2 market 2
1 DA 1 DB 1 Dm
0 2 4 6 8 10 12 0 2 4 6 8 10 12 0 2 4 6 8 10 12 14
quantity of chocolate quantity of chocolate quantity of chocolate bars
bars (per week) bars (per week) (thousands per week)
(a) A movement along the demand curve, (b) A shift of a demand curve, caused by a change in
caused by a change in price, is called a a determinant of demand, is called a ‘change in
‘change in quantity demanded’ demand’
P P
change in demand
A change in
P1 quantity decrease increase
demanded in D in D
B
P2 D2
D D3 D1
0 Q1 Q2 Q 0 Q
5 SA 5 SB 5 Sm
4 4 supplies 4
of other
3 + 3 + firms in
= 3
2 2 the market 2
1 1 1
(a) A movement along the supply curve, (b) A shift of the supply curve, caused by a
caused by a change in price, is called a change in a determinant of supply, is called a
‘change in quantity suppied’ ‘change in supply’
P P
S S3 S1
S2
B decrease increase
P2 in supply in supply
change in
A quantity P1
P1 supplied
0 Q1 Q2 Q 0 Q3 Q1 Q2 Q
S
price of chocolate bars ($)
5 surplus
4
equilibrium
3 price
market equilibrium
1
shortage D
equilibrium quantity
0 2 4 6 8 10 12 14
quantity of chocolate bars
(thousands per week)
D1 D3
0 Q1 Q2 Q 0 Q3 Q1 Q
Figure 2.10 Changes in demand and the new equilibrium price and quantity
c final b a
P2 P1 initial
equilibrium equilibrium
D
D
0 Q1 Q2 Q 0 Q3 Q1 Q
Figure 2.11 Changes in supply and the new equilibrium price and quantity
P P2
S Allocative
P3 consumer efficiency:
C surplus at market
P2 Pe equilibrium
producer MB = MC and
A surplus social surplus
B P4
P1 is maximum
D2 P5
shortage =
D1 excess demand P6 D = MB
0 Q1 Q3 Q2 Q 0 Qa Qb Qe Q
Figure 2.16 Price as a signal and incentive Figure 2.17 Consumer and producer surplus in a competitive market
P ($) P ($)
Qd = 14 – 2P
5 Qd = 19 – 2P 5
Qd = 14 – 2P
4 Qd = 10 – 2P 4
Qd = 14 – 4P
3 3
a a absolute
decreases increases value of b
2 2 increases
1 1
0 2 4 6 8 10 12 14 16 18 20 0 2 4 6 8 10 12 14 16 18 20
quantity of chocolate bars (thousands per week) quantity of chocolate bars (thousands per week)
Figure 2.12 Shifts of the demand curve (changes in a in the Figure 2.13 Changing the slope of the demand curve (changes in b in the
function Qd = a – bP ) function Qd = a – bP )
P ($) P($)
Qs = –1 + 2P Qs = 2 + 2P Qs = 6 + 2P Qs = 2 + 2P
5 5
4 4
value Qs = 2 + 4P
3 3 of d
c c increases
decreases increases
2 2
1 1
0 2 4 6 8 10 12 14 16 18 0 2 4 6 8 10 12 14 16 18
quantity of chocolate bars (thousands per week) quantity of chocolate bars (thousands per week)
Figure 2.14 Shifts of the supply curve (changes in c in the supply Figure 2.15 Changing the slope of the supply curve (changes in d in the
function Qs = c + dP ) function Qs = c + dP )
P P
P2
5% P1
P2
10%
P1
D
D
0 Q2 Q1 Q 0 Q2 Q1 Q
5% Special cases 10%
(c) Unit elastic demand: PED = 1 (d) Perfectly inelastic demand: PED = 0 (e) Pefectly elastic demand: PED = ∞
P P D P
D
P2 P1
5%
P1
D
0 Q2 Q1 Q 0 Q1 Q 0 Q
5%
P ($)
elastic portion of
50 demand curve
45 f PED = 4
e
40
35 inelastic portion
30 d PED = 1 of demand curve
25 c
20
15 b PED = 0.25
10 a
5
0 10 20 30 40 50 60 70 80 90 100
units of good A
(a) PED > 1 (elastic demand) (b) PED < 1 (inelastic demand) (c) PED = 1 (unit elastic demand)
P P P
(a) Primary commodities: supply shifts with inelastic demand (b) Manufactured products: supply shifts with elastic demand
S2
S2
S1 S1
P P
P2
S3 S3
P2
P1 P1
P3 P3
D
D
0 Q2 Q1 Q3 Q 0 Q2 Q1 Q3 Q
Figure 3.6 Price fluctuations are larger for primary commodities because of low PED
initial Pt
P1 equilibrium P1
initial
equilibrium
D D
0 Qt Q 0 Qt Q
D3 D1
increases
D2 D1 D3 D4
D decreases as price 0
of Coca-Cola® decreases Q
0 Q
Figure 3.9 Demand curve shifts in response to increases in income for
different YEDs
(b) Complements and XED : demand for tennis balls
P S
D increases
D2 as price of
tennis rackets
decreases
D1
D decreases as D3
price of tennis rackets increases
0 Q
P P
S
S
P2 P2
10% 10%
P1 P1
0 Q1 Q2 Q 0 Q1 Q2 Q
5% 15%
Special cases
(c) Unit elastic supply: PES = 1 (d) Perfectly inelastic supply: PES = 0 (e) Perfectly elastic supply: PES = ∞
P S1 P S P
S2
S3 P1 S
0 Q 0 Q1 Q 0 Q
(a) Primary commodities: demand shifts with inelastic supply (b) Manufactured products: demand shifts with elastic supply
P S P
P2 P2 S
P1 P1
P3 P3 D2
D2
D1
D1 D3
D3
0 Q 0 Q
Figure 3.13 Price fluctuations are larger for primary commodities because of low PES
D
0
0 Q Q t Q* Q
0 D
Q 0
Qt Q* Q
Figure 4.1 Supply curve shifts due to indirect (excise) taxes Figure 4.2 Impacts of specific and ad valorem taxes on market outcomes
S1
P
Pp subsidy
per unit
P*
S2 = S1 – subsidy
Pc
D
0 Q* Qsb Q
P
P S
welfare loss S = MC
Pe a
Pe b
Pc c d
Pc
shortage =
D e
excess demand D = MB
0 Qs Qe Qd Q
0 Qs Qe Qd Q
Figure 4.12 Price ceiling (maximum price) and market outcomes Figure 4.13 Welfare impacts of a price ceiling (maximum price)
excess supply =
P surplus
excess supply = S P
S
surplus
Pf
Pf
Pe D+
Pe
government
purchases
D
D
0 Qd Qe Qs Q
0 Qd Qe Qs Q
Figure 4.15 Price floor (minimum price) and market outcomes Figure 4.16 An agricultural product market with price floor and
government purchases of the surplus
P excess supply =
surplus
S = MC
a
Pf
b f
c
Pe
e D+
d government
welfare
purchases
loss
D = MB
0 Qd Qe Qs Q
P
excess supply of labour
= labour surplus supply
price of labour (wage)
= unemployment of
labour
Wm S
a welfare loss
Wm
We b c
We e
demand d
for
labour
D
0 Qd Qe Qs Q
quantity of labour 0 Qd Qe Qs Q
Figure 4.19 Labour market with minimum wage (price floor) Figure 4.20 Welfare impacts of a minimum wage
P P S2 = S1 + tax
S2 = S1 + tax
S1
tax per
unit tax per
Pc S1 unit
Pc
consumers consumers
P* P*
producers
Pp producers
Pp
D D
0 0 Qt Q* Q
Qt Q* Q
tax per
unit
S1 S2 = S1 + tax
tax per
Pc
Pc consumers
unit S1
consumers
P* P* producers
Pp
producers
Pp
D D
0 Qt Q* Q
0 Qt Q* Q
Figure 4.6 Incidence of an indirect tax with inelastic and elastic demand Figure 4.7 Incidence of an indirect tax with inelastic and elastic supply
P
P S2 = S1 + tax
0 Q* Q 0 Qt Q* Q
(a) Consumer and producer surplus in a competitive (b) Consumer and producer surplus with an indirect
free market: maximum social surplus (excise) tax: welfare loss
(a) Consumer and producer surplus in a competitive (b) Consumer and producer surplus with a subsidy: welfare loss
free market: maximum social surplus
P
P
S1 = MC
subsidy
S = MC per unit
Pp
gain in producer
S2 = S1 – subsidy
consumer P * surplus a
surplus gain in consumer
P* surplus
Pc welfare loss
producer
surplus
D = MB
D = MB
0 Q* Q
0 Q* Qsb Q
P
S = MPC = MSC
Popt
D = MPB = MSB
0 Qopt Q
allocative efficiency
is achieved
Pm Popt
Pm welfare loss
Figure 5.2 Negative production externality Figure 5.3 Welfare loss (deadweight loss) in a negative
production externality
MSC
P
S = MPC
Popt
Pm
D = MPB = MSB
0 Qopt Qm Q
(a) Imposing an indirect tax on (b) Effects on external costs of a tax on (c) Tradable permits
output or on pollutants emissions (carbon tax)
MSC = MPC + tax MSC1 = MPC + tax P S of tradable
P tax = external cost P MSC2 permits
P2
Pc = Popt S = MPC S = MPC
Pm Pm P1 D2
Pp
Figure 5.6 Negative consumption externality Figure 5.7 Welfare loss (deadweight loss) in a negative
consumption externality
(a) Government regulations and advertising (b) Market-based: imposing an indirect tax
P P MPC + tax
external
cost tax =
external
cost
S = MPC = MSC Pc
S = MPC = MSC
Pm Pm
Pp
D1 = MPB D = MPB
Popt
D2 = MSB MSB
after demand decreases
0 Qopt Qm Q 0 Qopt Qm Q
S = MPC
P P
external
benefits
S = MPC
MSC external
Pm benefits
MSC
Popt Pm
D = MPB = MSB
0 Qm Qopt Q
D = MPB = MSB
0 Qm Qopt Q
Figure 5.9 Positive production externality Figure 5.10 Welfare loss (deadweight loss) in a positive
production externality
S = MPC P S = MPC
P
spillover
benefit subsidy =
MSC spillover benefit
Pm Pm MSC
Popt Popt
D = MPB
D = MPB 0 Qm Qopt Q
0 Qm Qopt Q
P
P
S = MPC = MSC
Popt
Pm S = MPC = MSC
MSB welfare loss
external
benefit
D = MPB Popt
0 Qm Qopt Q external
Pm benefits
Figure 5.12 Positive consumption externality
MSB
D = MPB
0 Qm Qopt Q
Popt
Pm D2 = MSB
external
benefit
D1 = MPB
0 Qm Qopt Q
P
S = MPC = MSC
S + government
provision
Pm
Pc MSB
D = MPB
0 Qm Qopt Q
P S = MPC = MSC
subsidy = MPC –
external subsidy
benefit
Pm
Pc MSB
D = MPB
0 Qm Qopt Q
TC
0 TVC
units of variable input (labour)
costs
units of output
TFC
0 output, Q
AP
0 MP MC
units of variable input (labour)
(d) Marginal and average product curves
AVC
units of output (AP, MP)
AP AFC
0 output, Q
MP
0
units of variable input (labour)
(d) Average cost and marginal cost curves
AVC
0 Figure 6.3 Product curves and cost curves are mirror images due to the law of
output, Q diminishing returns
(b) Long-run average total cost curve in relation to (c) Economies and diseconomies of scale
short-run average total cost curves
economies diseconomies
a LRATC of scale of scale
b SRATC1 LRATC
costs
SRATC2
SRATCm
costs
0
output, Q
0 Q1 Q2
output, Q
(a) Profit-maximising firm produces at Q2 and (b) Profit-maximising firm produces at Q2 and (c) The loss-minimising firm produces at Q2
makes economic profit: TR – TC = c – d makes zero economic profit: TR – TC = 0 (if it produces) and makes a loss = TC – TR
(it earns normal profit) = a – b (negative economic profit since
TR < TC )
TC
TR TC TC
costs, revenues
costs, revenues
costs, revenues
e
c TR a
a TR
f a
d b
b
0 Q1 Q2 Q3 Q 0 Q1 Q2 Q3 Q 0 Q1 Q2 Q3 Q
Figure 6.10 Profit maximisation using the total revenue and total cost approach when the firm has no control over price
0 Q max Q 0 Q1min Q
Figure 6.11 Profit maximisation using the total revenue and total cost approach when the firm has control over price
P P
S
Pe Pe D
D
0 Q 0 Q
(a) Individual firm (b) Market/industry
Figure 7.1 Market (industry) demand and supply determine demand faced by the perfectly competitive firm
P, MR, AR
TR
TR 40
70
60 30
50
40 20
30
20 10
10 D = P = MR = AR
0 1 2 3 4 5 6 7 Q 0 1 2 3 4 5 6 7 Q
price, ATC
revenue,
costs MC
Figure 7.4 Summary of the perfectly competitive firm’s short-run decisions, and the firm’s short-run supply curve
(c) Economic loss: the firm continues to produce (d) Loss in the short run and the shut-down price
price, revenue, costs
MC
ATC
AVC
g
P5 = MR5 = AR5 = D5
P5
h
0 Q5 Q
LRATC
SRATC
Pe D = MR Pe
D
0 Qf Q 0 Qi Q
Figure 7.5 The firm and industry long-run equilibrium position in perfect competition
MC
P1
a
P1
1 S2
b 2
P2 P2
D
0 Q2 Q1 Q 0 Q1 Q2 Q
P
MC ATC
costs, revenue, P
S2
a 2
P1 P2 S1
1
P2 P1
b
D
0 Q1 Q2 Q 0 Q2 Q1 Q
P
MC
S = MC
costs, revenue, P
ATC consumer
surplus
Pe Pe
P = MR = Pe producer
surplus
D = MB
0 Qe Q 0 Qe Q
(a) The firm (b) The market/industry
Figure 7.7 Productive and allocative efficiency in perfect competition in the long run
30 profit b
25 TR
20
15 MR D = AR
10 0 Q Q
max
5
(b)
0 1 2 3 4 5 6 7 8 9 10 11 Q
MC
10 D = AR
(price-inelastic MR
demand)
0 Qlmin Q
5
P = AR = D
0 Figure 7.11 Profit maximisation and loss minimisation
1 2 3 4 5 6 7 8 9 10 11 Q in monopoly: marginal revenue and cost approach
-5
MR
MC
price, costs, revenue
Pπ
costs
Pr
LRATC
D
D = AR 0 Q
minimum efficient
0 Qπ Qr Q scale
MR
Figure 7.12 Comparison of profit maximisation and revenue maximisation Figure 7.13 Natural monopoly
by the monopolist
S = MC MC
Pm b
price, costs, revenue
D = MB D = MB
0 Qpc Q 0 Qm Qpc Q
MRm
A C
consumer Pm
Ppc
surplus E
welfare (deadweight) loss
producer F
surplus D
B
producer
D = MB surplus D = MB
0 Qpc Q 0 Qm Qpc Q
MRm
Figure 7.15 Consumer and producer surplus and welfare (deadweight) loss in monopoly compared with perfect competition
MC MC
price, costs
ATC ATC
Pe
Pe
D
0 Qpe Q 0 Qm MR Q
at long-run equilibrium at long-run equilibrium
production takes place at min ATC production takes place at greater than
(productive efficiency), and min ATC (productive inefficiency), and
Pe = MC (allocative efficiency) Pe > MC (allocative inefficiency)
Figure 7.16 Allocative and productive inefficiency in perfect competition and monopoly
D = AR D = AR D = AR
0 Qe Q 0 Qe Q 0 Qe Q
MR
MR MR
MC 40 70
million million
High price
price, costs, revenue
Pe ATC Zs Zs
Universal Space Line’s price
40 10
million million
Zs Zs
4 2
D = AR
10 20
million million
Low price
0 Qe Qc Q Zs Zs
MR 70 20
million million
Zs Zs
3 1
Figure 7.22 Long-run equilibrium of the firm in monopolistic Figure 7.23 Game theory: the prisoner’s dilemma
competition
MC Z
price, costs, revenue
P1 MC1
a
Pe ATC
MC2
profit b
D = AR D
MR
0 Q max Q 0 Q1 Q
MR
Figure 7.24 Profit maximisation by a price-fixing cartel Figure 7.25 The kinked demand curve
P P P
MC
P1
P2
D2 MR = MR1 + MR2
D1
MR2
0 Q1 Q 0 Q2 Q 0 Q3 Q
MR1
(a) Market 1 (b) Market 2 (c) Market 1 and market 2
pr
f
,
i
ur
ld s, pro
en
bo
ho age fit) d
eu
se t, wt, pro
, la n
uc
rsh
re eres
u
land
ho
tio
ip
in (
t
n
households firms
(consumers) (businesses)
ou
h
pe sehol s
ex
nd d nue
itur reve
go e
es
o ic
ds product rv
an d se
ds markets a n
erv ds
ices goo
factor incomes
(wages, rents, interest, profit)
households firms
(consumers) (businesses)
consumer expenditure
(spending on goods and services)
t
savi
ng en
financial markets st m
ng
inve
ndi
orts
spe
tax
nt
me
e xp
es
ern
sp
government gov
on
en
ng
di
ng
o
di
ni en
mp sp
or t
s
other countries
Figure 8.3 Circular flow of income model with leakages and injections
trough
trough
0
time (years)
e long term
b growth trend, or
potential GDP =
full employment GDP;
a unemployment =
actual GDP < potential GDP; there is an natural rate of
output gap: unemployment > natural unemployment
rate of unemployment
0
time (years)
Figure 8.5 Illustrating actual output, potential output and unemployment in the business cycle
(a) The aggregate demand curve (a) The upward-sloping SRAS curve
SRAS
price level
price level
AD
0 0
real GDP real GDP
(b) Shifts in the aggregate demand curve (b) Shifts in the SRAS curve
SRAS3 SRAS
1 SRAS
2
price level
price level
Figure 9.1 The aggregate demand (AD) curve Figure 9.2 The short-run aggregate supply curve (SRAS )
(a) The economy with a deflationary (b) The economy with an inflationary gap (c) The economy at the full employment
(recessionary) gap level of output
SRAS
SRAS
SRAS
price level
price level
price level
Ple
Ple Ple
AD
AD
AD
0 Ye Yp 0 Yp Ye 0 Yp = Ye
real GDP real GDP real GDP
SRAS SRAS3
SRAS1
SRAS2
price level
price level
Pl2 Pl3
Pl1 Pl1
Pl3 AD2 Pl2
AD3 AD1 AD
0 Y3 Y1 Y2 0 Y3 Y1 Y2
real GDP real GDP
price level
SRAS3
Pl1
Pl1
Pl2 AD3
Pl3
AD1
AD2
AD
0 Yrec Yp Yinfl real GDP 0 Y2 Yp Y3 real GDP
LRAS
SRAS
price level
AD
0 Yp
real GDP
Figure 9.7 The LRAS curve and long-run equilibrium in the monetarist/
new classical model
(a) Creating and eliminating a deflationary gap (b) Creating and eliminating an inflationary gap
LRAS LRAS
SRAS1 SRAS1
price level
price level
Pl1 a SRAS2 Pl3 c SRAS2
Pl2 b Pl2 b
Pl3 c Pl1
a
AD1 AD1
AD2 AD2
0 Yrec Yp 0 Yp Yinfl
real GDP real GDP
Figure 9.8 Returning to long-run full employment equilibrium in the monetarist/new classical model
LRAS
SRAS1 Keynesian AS
Pl1
price level
price level
SRAS2
Pl2
section II
AD2
section I
0 Yp 0 Yp Ymax real GDP
real GDP
Figure 9.9 Changes in long-run equilibrium in the monetarist/new Figure 9.11 The Keynesian aggregate supply curve
classical AD-AS model
(a) Recessionary (deflationary) gap (b) Inflationary gap (c) Full employment equilibrium
price level
price level
AD AD
AD
0 Ye Yp 0 Yp Ye 0 Yp = Ye
real GDP real GDP real GDP
Figure 9.12 Three equilibrium states of the economy in the Keynesian model
price level
Pl2
AD3
Pl3 AD2
Figure 9.13 Effects of increases in aggregate demand on real GDP and the price level
price level
Figure 9.14 Increasing potential output, shifts in aggregate supply curves and long-term economic growth
SRAS1 SRAS2
price level
Pl1
Figure 9.15 Long-term economic growth: achieving potential (full employment) output in a growing economy
Keynesian AS
autonomous induced
spending spending Pl3
price level
price level
$8 $24
million million
Pl2
$32 million Pl1 AD3 AD4
AD2 AD3
AD1 AD2
0 AD1
Y1 Y2 Y3
0 Y1 Y2 Y3
real GDP
real GDP
Figure 9.17 Aggregate demand, real GDP and the multiplier in the Figure 9.18 How the effect of the multiplier changes depending on the
Keynesian model price level
price
price
P2 P1
D1 We
D
demand
D2 for
0 0 Q2 Q1 Q labour
Q2 Q1 Q
0 Qd Qe Qs Q
(a) Fall in demand for a product produced (b) Labour market rigidities lead to an quantity of labour
in a declining industry, or produced in increase in costs of production (supply
shifts to the left), causing a fall in (c) Minimum wage legislation and labour union
a local industry that relocates, causes
Q produced; employers hire fewer activities lead to higher than equilibrium wages
a fall in Q produced; employers fire
workers and lower quantity of labour demanded
workers with inappropriate skills or
local workers no longer needed due to
relocation
SRAS
price level
price level
Pl1
Pl2 Pl1
AD1 Pl2
AD1
AD2
AD2
0 Yrec Yp 0 Yrec Yp
real GDP real GDP
SRAS
SRAS1
price level
Pl2
price level
price level
Pl2 Pl2
Pl1
Pl1
Pl1 AD2 AD2
AD1
AD1 AD1
0
0 Yrec Yp
0 Yp Yinfl Yp Yinfl
real GDP
real GDP
real GDP
(a) The shifting Phillips curve (b) The reasoning behind SRAS shifts in
terms of the AD-AS model
SRAS3
rate of inflation
Pl3 SRAS2
c
price level
c
Pl2 SRAS1
b b
a PC3 Pl1 a
PC2
PC1 AD
0 unemployment rate
0 Y3 Y2 Y1
real GDP
Figure 10.7 Stagflation: outward shifts of the short-run Phillips curve due to decreasing SRAS
(a) The shape of the LRPC and SRPC (b) The reasoning behind the two curves in
terms of the AD-AS model
LRPC
LRAS
rate of inflation
SRAS2
Pl3 c
price level
9% c b SRAS1
Pl2
7% AD2
b SRPC2
5% Pl1 a
a SRPC1
AD1
0 3% 5%
unemployment rate 0 Yp Yinfl
real GDP
5% = natural rate
of unemployment
100
(a) Economic growth as an increase in actual output caused by
reductions in unemployment and productive inefficiency
Y
A g
40 d
0
Belarus
X
f
(b) Economic growth as an increase in production possibilities 20 c
caused by increases in resource quantities or improvements in e b
resource quality a Bolivia
0 20 40 60 80 100
Y
cumulative percentage of population
C Figure 11.3 Lorenz curves: Belarus achieves greater income equality than
Bolivia
B
A
100
0
PPC1 PPC2 PPC3 X
perfect income
cumulative percentage of income
80 equality
Figure 11.1 Using the production possibilities model to illustrate economic
growth
60 increased income
equality after
redistribution
40
20
before
redistribution
0 20 40 60 80 100
cumulative percentage of population
(a) The monetarist/new classical model (a) The monetarist/new classical model
LRAS LRAS
price level
SRAS
price level
SRAS
Pl2
Pl1
Pl1 Pl2
AD2 AD1
AD2
AD1
potential output
Pl1
Pl2
Pl2
AD1
Pl1 AD2
AD2
AD1
0 Yp Yinfl real GDP
0 Yrec Yp real GDP
potential output
Figure 12.1 Effects of expansionary policy: eliminating a recessionary Figure 12.2 Effects of contractionary policy: eliminating an
(deflationary) gap inflationary gap
due to G
SRAS SRAS
price level
price level
due to G
due to I AD2
due to I AD2
AD3
AD1 AD1
0 Y1 Y3 Y2 0 Y1 Y2
real GDP real GDP
(a) Equilibrium rate of interest (b) Changes in the supply of money cause
changes in the equilibrium rate of interest
Sm Sm3 Sm1 Sm2
rate of interest
rate of interest
i3
i i1
i2
Dm Dm
0 Qe 0 Q3 Q1 Q2
quantity of money quantity of money
Figure 12.4 The money market and determination of the rate of interest
good Y
Country B: absolute Country B: comparative country A’s PPC
advantage in good X advantage in good X country B’s PPC
0
good X
good Y
Production possibilities when each Opportunity cost of cotton Opportunity cost of microchips
country produces only cotton or
only microchips
(1) (2) (3) (4)
Cotton Microchips
20 or 10 10 units of microchips 1 20 units of cotton
Cottonia = =2
20 units of cotton 2 10 units of microchips
25 or 50 50 units of microchips 25 units of cotton 1
Microchippia =2 =
25 units of cotton 50 units of microchips 2
20 15
5
10
5 Cottonia’s 0 10 20 30 40 50
PPC microchips
0
10 20 30 40 50 60 (b) Microchippia exports 10 units of
microchips microchips and imports 10 units of cotton
25
Figure 13.2 Comparative advantage 20
cotton
15
10 D consumption
5
C production
0 10 20 30 40 50
microchips
Figure 13.4 The gains from specialisation and trade based on comparative
advantage: both countries consume outside their PPC
world price =
Pw world supply curve
Dd = domestic demand
0 Q1 Q3 Q2 Q
imports after subsidy
(a) The market for US dollars (a) Demand for $ increases: $ appreciates
per $ = price of $ in terms of
(a) Shifting the currency demand curve (b) Shifting the currency supply curve
$ per bople = price of boples in terms of $
S of boples S1 of boples
2. central bank buys excess S2
boples, increasing demand 2. imports are reduced,
for boples therefore the supply
of boples falls
B A B A
2.00 2.00
1. fall in demand for Bopland's 1. fall in demand for Bopland's
1.50 exports reduces demand exports reduces demand
C for boples for bople
Figure 14.3 Fixed exchange rates: maintaining the value of the bople at 1 bople = $2.00
C
good A
PPC
0
good B
D
PPC
0
good B
Figure 14.6 Using a PPC to illustrate a trade deficit and a trade surplus
(a) Changes in global demand: terms of trade and (b) Changes in global supply: effects of terms of trade changes on
balance of trade change in same direction the balance of trade depend on PEDs for exports and imports
S3 S1
global price of internationally
traded good
of wheat P1 S2
P1
P3 D2
P2 global demand
global demand
D1 for wheat
D
D3
0 Q3 Q1 Q2 0 Q3 Q1 Q2
quantity of internationally quantity of internationally
traded good traded good
Figure 15.1 Changes in global demand or supply: terms of trade impacts on the balance of trade
P S1
S2
P1
P2
D2
D1
0 Q
D
A
E
B
PPC1 PPC2
0
merit goods
low
low physical human low natural
capital capital capital
low productivity
low growth
of labour
in income
and land