Microeconomics PDF

MICROECONOMICS
AGRICULTURAL ECONOMICS AND MARKETING

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MICROECONOMICS
Economics
 The study of the methods of allocation of scarce physical and human resources among
unlimited wants competing ends (Ferguson and Maurice)
 The study of human society , with or without the use of money, employ scarce productive
resources to produce various commodities overtime, and distribute them for consumption now
and in the future among various people and groups.(Samuelson)
 Concerned with the efficient utilization or management of limited productive resources for the
purpose of attaining the maximum satisfaction of human wants (Mc Cornell)
Based on the above definition, the following statements can be made:
1. That economics is a science, specifically a social science

2. The economic resources are scarce or unlimited
3. That human wants are unlimited, competing and insatiable
4. That man society’s economic activities- production, distribution and consumption-can be done
with or without the use of money
5. That the ultimate goal of man’s economic activities is maximum satisfaction of his wants and
needs
6. That economics teaches efficient utilization of resources in the production, distribution and
consumption of goods and serves
7. That the resources are utilized not only to meet the needs of the present generation but also
of the future generations (this is the concept of sustainable resources).
The definition has four concepts namely:
 Human wants
 Goods and services (commodities)
 Resources
 Scarcity and choice
General Types of Economic Resources
1. Natural resources (land, forest, mines and other products of nature)

2. Human resources ( physical and mental abilities of people)
3. Man-made resources or manufactured goods ( tools, machineries, buildings, and other forms
of capitals)
Microeconomics
 The branch of economics that is concerned with the problems and choices of individual
economic units
 Seeks to understand and explain the behavior of individual as they respond to changes in their
economic environment e. in the relative scarcity of the things involved in their choice of fields
 Explore the decisions that individuals business and consumers make
Macroeconomics
 Branch of economics which is concerned with the study of aggregate economic output,
employment, money and the general price level.
 Deals with the study of the economy as a whole
 In macroeconomics, one looks at the economy as a whole, instead of trying to understand
what determines the output of a single firm or industry, macroeconomics examines the factors
that determines national output or national product.
REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 2

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Agricultural Economics
 An applied field of economics which deals with the proper allocation of scarce agricultural
resources among competing use in the production, processing and distribution and
consumption of food and fiber
 The scientific study of methods, practices, conditions and policies affecting agriculture
 Concerns with the economic approaches, consumptions and preservations of natural
resources.
Positive Economics
 The study of economics as an objective science

 It is concerned with describing and analyzing “what is” and predictions “ what will occur” given
the circumstances and known economic relationships, without passing any value judgment on
the ethical merits of the results
 It strives to describe what exists and how it works
Normative Economics
 Looks at the outcome of economic behavior and work if they are good or bad and whether
they can be made better
 It involves judgment and prescriptions for causes of actions
ECONOMIC PROBLEMS/ SCARCITY AND THE BASIC ECONOMIC QUESTIONS
Scarcity and choice
Scarcity is the main obstacle which economics aims to hurdle. Because of scarcity, there is a need to
decide how to allocate resources and make choices on the goods to be produced.
Important concepts related to scarcity
Opportunity Costs- refers to the value of the best foregone alternatives.
The basic economic problem that underlies all economic issues is the combined existence of scarce
resources and unlimited wants. Three basic economic questions or problems forced by any economy
includes :
 What and How much should we produce

 How production be organized
 For whom should goods be produced
The Economic Problem
What to produce?
 In the choice on what particular goods to produce, and what not to, it should be true that
some goods gave greater importance than others. Some goods have greater “value: to
individuals, and even to the society , than others.
 There are also goods that could be more easily produced by the productive factors and
available technology in the society, while others could still be produced, but only with great
difficulty and at great cost. There are goods that could be produced less costly and more
efficiently by the society’s productive resources, capacities, and technology, while others could
only be produced at very high costs.
 It should make sense that the limited productive resources be directed at producing those
goods that carry greater weights in the society’s evaluation, balanced against the capacity of
the same productive resources to more efficiently produce them, relative to other goods.
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How Much to Produce?
 Once the set of goods to produce have been singled out and once the constraints imposed by
the scarcity of productive resources are considered, it should not make sense to arbitrarily
produce as much of each good as possible.
 Even among the goods that could and would be produced, such goods can still be ranked
according to their relative “ value” in terms of societal preferences, on the other hand, and
according to the capacities of the productive resources to produce, from the greater to the
lesser degree.
How to Produce?
 The question on how to produce refers to the different ways and techniques of allocating the
limited resources in the production. There are techniques that are relatively land intensive,
others, labor intensive and still others, capital intensive, and each technique would be
efficient in its proper activity.
For Whom to Produce?
 Once the sectors among the consuming public have been identified, we could also ask, “ How
much for each?” These questions have to be asked because the goods, once produced, are
also scare relative to the public’s preferences for them. Everybody cannot have everything.
TECHNOLOGY CHOICES AND PRODUCTION POSSIBILITY FRONTIER (PPF)
The problem of scarcity of resources necessities that everyone must make choices that entails costs.
This means that if we choose more of one thing, then we choose less of another. The production
choices open to any economy or society.
As a model, it necessarily embodies many simplifying assumptions so as to focus in the essential

aspects of a society’s production possibilities as well as its constraints.
Assumptions: Example
a. Only two goods are produced : food and clothing

b. The society is endowed with only three productive resources; land, labor and capital. At any
point in time, these resources are fixed in their totality, but could be readily be transferred
from one sector to another.
c. In both food and clothing production, the technology is given at any point in time.
Furthermore, the technology exhibits diminishing returns in the use of all productive inputs;
and
d. All productive resources are fully employed
As a simple model, the graph of the PPF captures all the assumptions used in characterizing the simple
economy that:
a. All points along the frontier represents the maximum possible combinations of food and
clothing output, fully employing all the productive resources, given the technology and
b. Production technology exhibits diminishing returns, as depicted by the concavity to the origin
or the bowed out shaped of the PPF curve.
The PPF also provides some useful additional information concerning the possibilities and limit to the
society.
 Any point within the frontier is feasible, given the scarce productive resources and technology,
but such an option would be inefficient.

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 Any point outside the frontier may be preferred, but is infeasible. The scarcity of productive
resources and the limits to the given technology imply that if the society wants to produce,
then it can no longer produce anything else.
Economic resources or factors of production
1) Labor- labor grows in size as the population of a country increases and as immigration or
movement of labor proceeds.
2) Land- agricultural land ( including fishing grounds) and mineral land
3) Capital- represented by equipment or machinery, buildings, improvement on land and other
man-made productive means-expands only as more resources generated which are added to
existing productive means
ECONOMIC SYSTEM
An Economic system is the way economic units are organized to make decisions about the basic
economic problems of society.
 Capitalism-Under capitalism, the means of production, known as capital , are owned by

individuals or private enterprise. The principles of the “invisible hand” means that under
competitions, the good of society is promoted by the actions of all sellers and buyers, even
when their only concern is their own individual welfare.
 Laissez faire, or the “let-alone” policy with respect to business, is a natural consequences
of the principles of competition which is underlying the assumption of the invisible hand.
However, when conditions deviate from pure competition, such as when one buyer or
seller is able to influence the price of quantity outcome of a transaction, there is some
breakdown of the market, and monopoly power of some kind results. This is the reason for
introducing the government regulation and intervention in the market. It has led to
regulated capitalism and also to socialism
 Fascism-Fascism is an economic system associated more with the political system of a strong
one-man or junta dictatorship, such as Nazi Germany’s in the 1930s and early 1940’s. Large
companies are linked to state power and they wield great monopoly power
 Socialism-Socialism is an economic system in which key enterprise are owned by the state.
There is a lot of private ownership and also private ownership
 Communisms-Under communism, all productive enterprise are owned by people,
represented by the state. In the extreme version of communisms, no private ownership is
compatible with
 Feudalism-Feudalism is an agrarian economic system in which the control of land and the
specialization of class roles between landholders and peasants, is strictly structured.
The Philippine System
 The Philippine Economic system is a private enterprise, capitalistic economy. It represents a

regulated form capitalism having the features of public enterprises similar to some socialists
economic system. It has therefore a hybrid system of capitalism, regulation and socialism. In
the rural areas, remnants of feudalism still exists.
Alternative Economic System
 Custom Economy- functioning of the economy is governed by customs, beliefs, and

traditions
 Command Economy-public ownership of resources and with a centralized decisions on the
allocations of resources
 Market/ Capitalists Economy-private ownership of resources and decisions on the
allocation of resources is made through market interaction.
 Mixed Economy- combination of the first three mentioned economies. Most economies today
are mixed economies.

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ENTERPRISES AND THEIR ORGANIZATION
In a private enterprise economy, individuals can establish any enterprise they choose. This can be
o Single proprietorship
o Partnership
o Corporation
o Cooperative
Single Proprietorship-A proprietorship is a business owned by a single person. Because it can be

organized by one person, it is the easiest enterprise to set up. The bulk of self-employed people are
single proportions and these includes the informal or unorganized sector.
Features of single proprietorship
 Small business-the single proprietorship is likely to be a very small business. A single

proprietor is literally his own boss, and therefore being in such a business suits the
individualistic bent. The single proprietor gets all the profits from the business and conversely
shoulders all the losses.
 Unlimited liability- the proprietor can be made to pay all business debts even beyond what
he has actively staked in the enterprises.
 Restricted resources-If business has to expand, financial resources has to grow.
 Prospect of growth-eventually , the manufacturer has to turn more to his own personal
resources or savings.
Partnership-An association of at least two persons who agree to place money, property or industry in
a common fund with the aim of sharing the profits among themselves.
Features of partnership
 Limited partners- a limited partnership is one in which some partners liabilities are limited to
their agreed share of capital contribution. However, a limited partnership has to have at least
one general partner who has unlimited liability.
 Unlimited liability- the general partners can be made to pay the debts of the partnership out
of their available resources, although all partners are proportionately liable with all their
property when all the partners’ assets have been exhausted.
 Legal personality- the partnership has legal, juridical, personality distinct from any of the
partners. As a legal person, the partnership can be sued or sue under the partnership name.
 Unpredictable lifetime- It is dissolved if one of the partners ceases to be associated with the
partnership.
 Financial limitations- greater access to more financial sources since more individuals can
pool their resources. Therefore the partnership would normally be a larger enterprise then the
proprietorship. It is also destined to have little room for growth in size, since, it does not have
many instrument for raising its finances.
Corporations-A corporation is a form of business organization in which the owners (known as

stockholders) have agreed ownership share and specific objectives in carrying out the business in
accordance with a charter of articles of incorporation.
Advantages
 Limited liability-the liability of the owner is limited to the direct proportion of their
contribution to capital. This means that in case of dissolution or bankruptcy, the owners can
only be liable in the payment of debts in accordance with the value of the combination in the
corporation.
 Better means of raising capital- the corporation has a larger capacity to raise capital,
primarily because it normally has a greater numbers of participants than the partnership. It
has other means of securing finances from other sources.
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 Continuous life- a corporation is a juridical person. Therefore, it can sue or be sued. It “

lives” for a given period. Its personality is therefore separate and distinct from that of the
owner, and its existence is continuous.
 Better access to management talent- when the corporation is large enough, it is able to
hire more competent, professional managers.
Cooperatives-Is an enterprise made up of members who provide specific types of services to the
membership through the organization.
The cooperative is a possible alternative to enterprise organization. Although the corporation has
become the dominant business form in the enterprise economies, the cooperative has remained an
attractive alternative. Among social reformers, it is conceived as the potentially most democratic form
of large corporations.
The cooperative provides certain services and goods to its members at cost. It is therefore designed to
meet the needs of the members. Patronage of the cooperative is normally a result of mutual benefits
enjoyed by the membership.
In many developed counties today, the cooperative has been successful in strengthening rural and
specifically agricultural institutions.
DEMAND, SUPPLY AND MARKET EQUILIBRIUM
Concept of Demand
 Demand- refers to the amount of a good and / or services that consumers are both willing
and able to purchase.
 Law of Demand- asserts that the quantity demanded of a good/ and or services is negatively
or inversely related to its own price. There are two reasons why price and quantity demanded
are inversely related.
o Price is an obstacle to consumption. The higher the price of a good, the greater is the
opportunity cost in terms of other goods that must be given up and therefore the less
consumers would want to buy of the item.
o Budget of the consumer- paying a higher price for some amount of a commodity
effectively reduces our income. ; it takes more pesos to buy a given quantity at a
higher price. Therefore at higher prices, consumers are forced to purchased less of all
the commodities they usually buy.
Illustrations of the demand function
 Schedule- numeral tabulation of the quantity demanded at selected prices, assuming other
things are held constant.
Demand schedule for denim pants

Price of denim pants Quantity demanded per
(in pesos) month
(no of pairs)
0 8
50 7
100 6
150 5
200 4
250 3
300 2
350 1

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400 0
 Curve- is a representation of the demand schedule. The demand curve is drawn as downward
sloping to illustrate the inverse relationship between price and quantity demanded.
 Equation.- quantity demanded (Qd) is expressed as a mathematical function of price (P).

The demand function may thus be written as :
Qd = a-bP
Where
 a-the horizontal intercept of the equation or the quantity demanded when the price is zero.
 -b= slope of the function. This illustrates the negative or inverse relationship between price
and quantity demanded. The slope also indicates the change in quantity demanded per unit
change in price.
 P= price.
The concept of Supply
 Supply- refers to the amount of a good and /or service that a firm or producer is willing and
able to offer for sale.
 Law of Supply- states that the quantity supplied is positively related to price : i.e. firms
offer larger amounts at higher prices and smaller amounts at lower prices.
Ways of presenting supply
 Supply schedule- tabular representation of supply

 Supply curve- graphical representation of supply
 Supply function- mathematical presentation of the relationship between price and quantity
supplied.
Supply Function
Qa = c+ dP
 c= is the horizontal intercept of the equation or quantity supplied when price is zero
 d- slope of the function
The positive slope of the function highlights the direct relationship between price and quantity
supplied. A change in price is matched by a change in quantity in the same direction; therefore, higher
prices generate higher amounts of quantity supplied.
TABLE . Supply schedule for denim pants
Price of denim pants Quantity supplied per

(in pesos ) month (number of pairs )
0 0
50 1
100 2
150 3
200 4
250 5
300 6
350 7
400 8

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CHANGES IN QUANTITY DEMANDED AND QUANTITY SUPPLIED (MOVEMENT ALONG THE

DEMAND AND SUPPLY CURVES)
A change in price, both in the upward and downward directions, results or gives rise to changes in
quantity demanded or supplied. Thus, movement along the demand curve refers to changes in
quantity demanded.
If there is an increase in price, consumers respond by decreasing the quantity they want to buy of the
good. Similarly, movement along the supply curve mean changes in quantity supplied because
suppliers respond by producing less at lower prices
 Changes on quantity demanded- designates the movement from one point to another point
–from one price –quantity combination to another-an a fixed demand curve. It is a movement
along the given demand curve.
 Changes in quantity supplied- refers to the movement form one point to another on a
stable supply curve. The cause of such a movement is a change in the price of the specified
product under consideration
Shift in the Demand and Supply Curve
Aside from price, or independent of the influence of price, the following are the factors which can
cause demand to increase or decrease.
 Shift in the demand curve-happens when there is a change in demand-caused by a change

in one or more of the determinants of demand (other things held constant)
 Shift in the supply curve- happens when there is a change in supply-the cause is a change
in one or more of the determinants of supply-an increase in supply shift the curve to the right
a decrease in supply shift to the left
Income- A higher income level generally translate into greater ability to buy good and services and
hence, higher demand for most goods. Thus, when a consumer’s income increases, the demand curve
shifts to the right. At the same price, demand for the good has increased. Similarly, a fall in income
reduces demand, causing the demand curve to shift to the left. Goods for which demand increases as
income increases and for which demand decreases as income increases are known as Normal Goods.
However, it is possible for demand to actually decrease when consumer’s income increases. Such
commodities are known as Inferior goods. In the case of inferior goods, an increase in income
results in decrease in demand for such goods. Thus, the demand curve shifts to the right.
Prices of related commodities in consumption-

Our demand for an item is also influenced by the prices of related goods and services. Goods may be
either be substitute or compliments for each other. Example ballpen and pencil are substitute goods,
when the price of ballpen increases, the demand for pencils will increase causing the demand curve for
pencils to shift to the right.
Related goods may also be compliments in consumption. Complimentary goods are always consumed
together. A CD player and a CD are examples of complimentary goods. The demand for CDs would fall
if prices of CD player double. When the price of a complimentary good falls, demand for the related
goods increases, thus shifting the demand curve to the right.
Consumer’s tastes and preferences-Greater amounts of a good are demanded at every possible
price when consumer tastes shift towards a particular good. Demand for a good will increase if
consumers preferences change in the opposite direction, making the good less desirable than before.
The demand curve shifts to the left; at every possible price, less of the good is demanded than before.
Consumers expectations-Expectations about future prices and income affect our current demand
for many goods and services.

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Number of consumers-The number of consumers affects the market demand for a good since the
market demand for a good is the horizontal summation of the separate demand schedules of
individual consumers, an increase in the number of consumers shifts the demand curve to the right..
Like demand, there are other factors aside from price that affect the supply schedule. These factors
are:
Resource prices-When prices of inputs to production increases, the supply of the firms product
decreases. The entire supply curve shifts leftward with higher production costs, firm cannot produce
and offer the same quantity as before the increase in costs. Decreases in resource price, however,
translate to an increase in supply. Falling raw material costs, for instance, will reduce the production
costs of firms allowing them to expand output levels.
Prices of related goods in production-Resources or factor inputs can be employed to produce not
just one but several alternative goods and services. Thus, when the price of any of these goods
changes, the supply of a good related in production also changes.
Technology-A change in the production techniques can lower or raise production costs and affects
supply. A cost-saving invention will enable firms to produce and sell more goods than before at any
given price. Therefore improvements in technology shift the supply curve to the right. Changes in
technology that raise production costs, on the other hand, shift the supply curve to the left.
Producer’s expectations-When producers expect the price of their product to rise in the future, they
may hoard their output and store it for later sale, effectively reducing supply in the present period.
Thus, the supply curve shift to the left. The reverse is true if firms expect the price of their product fall
in the near future. Supply may increase in the current period as firms try to increase production as
well as to dispose of their inventory at the current price.
Number of sellers-Market supply is the horizontal summation of the supply schedule of individual
producers. When firms are enticed to enter the market, larger quantities are produced at all possible
prices, shifting the curve to the right. Similarly, the supply curve shifts to the left when firm exits the
market because supply decreases.
Market Equilibrium
Market equilibrium is that state in which both price and quantity are at levels at which the amount
firm want to supply exactly the amount consumers want to buy. That price is called equilibrium
price and the market clearing amount is called the equilibrium quantity. The market is said to be at
‘rest’ since the equilibrium price and equilibrium quantity will stay at those levels until either demand
or supply changes.
At price above the equilibrium price, the quantity supplied is greater than quantity demanded,
resulting in temporary surplus
At prices below the equilibrium price, the buying public demands goods than are available, creating
temporary shortage.
ELASTICITY CONCEPTS
The measurement of how much the quantity demanded of as a certain good changes a result of a
relative change in its price is known as own price elasticity of demand. (The concept of price
elasticity also applies to supply. The formulae and interpretation are the same except that quantity
demanded should be replaced with quantity supplied)
Price elasticity of demand (ἐ) is defined as the ratio of the percentage change in quantity demanded to
the percentage change in price, or

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ἐ= %∆ in Qd
%∆ in P
 If elasticity is measured at a single point on the demand curve, it is known as Point

Elasticity.
 If it is computed between two points on the demand curve, it is called Arc Elasticity. Arc
elasticity becomes point elasticity as the distance between the two points approaches zero
TABLE. Elasticity Values
Elasticity Values Description
|€| = 0 Perfectly inelastic
|€| < 1 Inelastic
|€| ≠1 Unit Elastic
|€| > 1 Elastic
|€| = ∞ Perfectly elastic

 When the percentage change in quantity demanded is greater than the percentage change in
price, demand is said to be price elastic i.e., demand is relatively sensitive to small rice
changes.
 But if the percentage change in quantity demanded is less than the percentage change in
price, demand is said to be price inelastic.
 If the percentage change in quantity demanded is exactly equal to the percentage change in
price demand is unit elastic.
 If quantity demanded does not change as price changes (the demand curve is vertical),
demand is perfectly inelastic
 While demand is perfectly elastic when consumers are prepared to buy all they can at some
price and none at all at any other price (the demand curve is horizontal)
Along a straight line demand curve, the value of the price elatisicity of demand varies. All straight line
demand curve have segment where demand is inelastic, elastic or unit elastic.
Price Elasticity and Total Revenues
Knowing what the price elasticities of demand are for a good is extremely important to producers.
Before producers raise the price of their product, they would like to know if sales ot total revenues
would rise, drop a little or whether sales will completely drop. A firm’s total revenue is equal to price
multiplied by quantity sold. An increase in price may raise total revenues because quantity sold falls.
The net effects of a price change on total revenues therefore depends on whether the change in
quantity is relatively larger or smaller than the change in price.
When the demand is elastic, a price increase will lead to a drop in total revenues; the percentage fall
in quantity demanded is greater than the percentage increase in price. Similarly, if demand were
inelastic for such a price increase, the decline in quantity demanded would be proportionately less
than the price increase, and producers total revenues would increase.
TABLE. Relationship between price changes, elasticity and total revenues (for an increase in
price)
Price change Elasticity Change in total

definition revenues
Increase Elastic Decrease
Increase Inelastic Increase
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Increase Unit Unchanged
Determinants of Price Elasticity of Demand
1) Availability of good substitute for the commodity: more substitute, more elastic
2) The number of uses the good can be put into: more use, more elastic
3) The price of the good relative to the consumers purchasing power: if the good takes a larger
share of the budget the more likely to be more elastic
4) The time frame under consideration: the longer period of time, the more elastic
5) Location along the demand curve
Demand will tend to be elastic if good substitute are available. In this case, it is easy to respond to
price changes in either direction. Similarly, the wider the range of uses for the good, the more elastic
demand will tend to be. The greater the number of uses in which a good, the more elastic demand
will tend to be. The greater number of uses in which a product can be put, the greater the possibility
for variation in quantity demanded as its price varies. Demand for goods that take a large amount of
buyers budget is more likely to be elastic. The longer the time period being considered, the more
elastic is demand. Most consumers are creatures of habit of habit. Therefore, it takes time to find or
experiment with other products when the price of an item changes. Finally the location of the price-
quantity combination on the demand curve will determine whether demand is price elastic, inelastic or
unit elastic.
Income Elasticity of Demand
Quantity demanded may also change if the consumer’s income changes. Income elasticity measures
the responsiveness of quantity demanded to changes in income. Income elasticity (ŋ) may be
computed by the following.
ŋ =%∆ in Qd
%∆ in Income
 When the income elasticity of demand assumes a positive value, quantity demanded of the
good increases as income increases and the good being studied is known as Normal Goods.
 If the quantity demanded of a good falls as income increases, the income elasticity takes a
negative value and the good is called an Inferior Goods. The value of the income elasticity
coefficient can vary greatly.
 Goods may also be classified as “ luxuries or necessities” depending on their demand
elasticities. If the income elasticity of demand is grater than 1, the good may be considered a
luxury while if income elasticity of demand is less than 1, the good may be considered a
necessity
Cross Price Elasticity of Demand
It measures the percentage change in quantity demanded of one good following a one percent change
in the price of another good. If we have two goods X and Y, cross price elasticity (Lxy) is computed as
Lxy=%∆ in Qdx
%∆ in Py
 Price increases of a substitute goods leads to an increase in the quantity demanded of the
other good; hence when the cross price elasticity is a positive number, the two goods are
substitute goods.
 On the other hand, when the cross price elasticity has a negative value, the goods are
complimentary goods. A price increase of a complement goods leads to a decrease in the
quantity demanded of the other good.

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SOME APPLICATIONS OF MARKET EQUILIBRIUM
Minimum Price Policy
If the government feels that the market price of a commodity is too low, it can institute a floor price,
i.e. set up a price support. For example, the floor prices are usually imposed on certain agricultural
commodities to help farmers. To be effective, a floor price is set up above the market equilibrium
price. As such, it will always result in excess supply or surplus. If government thinks that the
equilibrium price P* is too low, it can institute a floor price and set Pf as the floor price. Government
support this price by purchasing the quantity of the product that producerscannot sell at the higher
price or in terms of, government acquires the surplus Q1Q2. the surplus will be less intense if through
time, the market demand for the commodity increases or by finding uses to which the surplus can be
utilized.
Maximum Price Policy
A price ceiling policy is usually imposed if the government thinks that the market price of a
commodity is too high. The objective of this policy is to extend a price subsidy to consumers. If the
price ceiling is effective, it will result in excess demand or shortage. This shortage can be eliminated
by rationing, importing, and injecting buffer stocks to the market.
Tax Incidence
The tax incidence problem analyzes the effects of government tax policies on consumption and
production. The tax could either be a specific tax or an ad valorem tax. The specific tax or excise tax is
a tax per unit of the product while the ad valorem tax is a tax as percentage of the selling price. The
share of the tax borne by the consumer and the producer will vary according to the elasticity of the
demand and supply curves, respectively.
In general, the more inelastic the demand curve relative to supply, the greater the tax borne by the
consumers. Conversely, the more elastic the demand curve is relative to supply, the lesser is the tax
borne by consumers.
Who bears the greater portion of the tax? Is it the consumers or the producers
 The tax is likely to raise the equilibrium price, but by an amount less than the tax
 Sharing of the tax burdens depends on the own price elasticities of demand and supply.
 If the demand is more elastic than supply, the greater portion of the tax is likely to be
shouldered more by the producers
 If the demand is less elastic than supply, the consumers pay a greater portion of the tax
 If demand is perfectly inelastic, the consumers pay 100% of the tax
Consumer’s Surplus and Producers Surplus
Consumer’s surplus is a measure of how much better off an individual is by able to buy a good in the
market. It is the difference between what a consumer is willing to pay for a good versus what he
actually pays for the good. Knowing the demand curves enables us to calculate the consumers
surplus. It is the are below the demand curve and above the price line.
Producers surplus is the sum over all units produced of the difference between the market price of a
good and the marginal cost of production. Just as consumer’s surplus is measured by using the area
under the demand curve but above the price line, producer’s surplus measures the area above the
producer’s supply curve and below the price line.

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THEORY OF CONSUMER’S BEHAVIOR
Total Utility and Marginal Utility
Utility- the measurement of satisfaction derived from the consumption of a good or services
Measurement
Cardinal Utility Measurement-assumes that an individual can assign absolute values or numbers for
the satisfaction derived
Ordinal Utility Measurement- no need to assign value or number for the satisfaction, instead can
rank his/her preferences
Total Utility (TU) - refers to the overall level of satisfaction derived from consuming a good or
service. Generally, it increases as the amount of a commodity consumed increases but only up to a
certain maximum level which we can call the saturation point. Beyond this point, total utility will tend
to decline.
Marginal Utility- is the additional satisfaction that an individual derives from consuming an additional
unit of a good or services. It is also the change in total utility per unit change in the good or services
consumed. As satisfaction approaches saturation, this increment utility decreases as one consumes
more and more of a commodity.
1) Total utility, in general increases as quantity consumed increases

2) At a certain point, Total Utility starts to decline as quantity increases
3) If TU is increasing MU is positive but decreasing
4) This decreasing MU is explained by the Law of Diminishing Marginal Utility as more and
more goods of a goods is consumed, the process of consumption, will at some point, yield
smaller and smaller additional utility or satisfaction.
Diminishing Marginal Utility
As more and more of a good are consumed, the process of consumption will (at some point) yield
smaller and smaller additions to utility.
The principles of diminishing marginal utility can somehow provide the link between utility theory
and the demand curve. If additional units of a good will give you less additional utility per unit time,
then you would not be willing to pay a fixed price for each unit of a good consumed. Essentially, you
would be willing to pay a lower price for additional units of the commodity since you would be
deriving lower levels of marginal utility each time.
Consumer Equilibrium or Law of Comparison
 If the consuming good or services, the consumer is faced with the following constraints: price
of the goods and income
 To maximize satisfaction the consumers should follow the Equi-Marginal Principle- the
consumer maximizes satisfaction by equating the marginal utility per peso spent on the goods
Indifference Curve
Locus of points, each point representing combinations of goods, say X and Y, form which the
consumer derives the same level of utility.

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Indifference Map
Is a set or collection of indifference curves which represents various levels of satisfaction or utility.
Specifically, an indifference curve, that lies above and to the right of another indicates a higher level
of utility.
Characteristics of the Indifference Curve
a. Downward sloping or negatively slope- this implies that if more of good X is consumed, then
less of good Y is necessary to maintain the same utility or satisfaction.
b. Convex to the origin- this reflects the relative substitutability of goods X and Y; it also implies
that the rate at which Y can be traded for constant additions of X diminishes as more and
more of X is consumed and Y becomes “scarcer”
c. Non-Intersecting- if indifference curves intersect, this means that a single combination of X
and Y will yield 2 different levels of utility for the consumer; intersecting indifference curves
will also violate the assumption that consumer preferences are consistent or transitive.
The Budget Line
Locus of points, each point representing combinations of the maximum amounts of goods and
services that a consumer can purchase given his / her level of income and the prices of the
commodities. It serves as a boundary between the feasible and non-feasible combinations of goods
and services that are available to the consumer and which s/he can buy existing prices, given his/her
income level.
Consumer Equilibrium
A consumer will maximizes the satisfaction that will be derived from consuming goods, X and Y, given
the prices of such goods and the income by choosing that combination of X and Y that must be
completely exhaust the budget and at which the amount of Y that this consumer is willing to give up is
equal to the amount of Y that will be required by the market. Graphically, equilibrium occurs at that
point where the indifference curve is tangent to the budget line.
Income and Substitution Effect
Substitution Effect- is the impact of a pure price change on the quantity demanded of a certain
commodity. When the price of one good increases, as the income and prices of other goods remain
the same, now it becomes relatively more expensive than the rest of the goods in the consumer’s
basket. Thus, the consumer shifts to or substitute lower priced goods for the good whose prices has
increased in order to maintain his utility level.
Income Effect- impact on the quantity demanded of a change in purchasing power. By purchasing
power, we mean the quantity of goods that can be bought with a given income level and prices of the
commodities. Thus, when the price of a good increases, with the consumer’s income remaining
constant, the purchasing power or real income decreases. This then translate to a lesser amount of
goods that can and will be bought.
THEORY OF PRODUCTION AND COST
Firm is an entity concerned with the purchase and employment of resources in the production of
various goods and services. The firm is a price taker in terms of the resources it uses.
The Production Function-Refers to the physical relationship between inputs or resources of a firm
and their output of goods and services at a given period of time ceteris paribus.
The production function is dependent on different time frames

 Firms can produce for a brief or lengthy period of time
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 The shortness or longness of a period is dependent on the viewpoint of individual firms
Short-run vs. long run planning periods
 Short-run- planning period where at least one input is fixed

 Long-run-planning period where all inputs are variable
Factors or Inputs of production
The inputs used by a firm refers to the resources that contribute in the production of commodity. Most
resources are lumped into three categories: land, labor, capital. These resources can further be
classified into fixed inputs and variable costs
 Fixed inputs- are resources used at a constant amount in the production of a commodity
 Variable inputs- refers to the resources that change in quantity depending on the level of
output being produced.
Production Analysis with One Variable Input
Total Product ( Q) - refers to the total amount of output produced in physical unit
Table 5.1 Production function of a rice farmer
(1) (2) (3)

Labor Total Product of Marginal Product
Labor ( QL) of Labor (MPL)
0 0 0
1 2 2
2 6 4
3 12 6
4 20 8
5 26 6
6 30 4
7 32 2
8 32 0
9 30 -2
10 26 -4
Marginal Product - refers to the rate of change in output as an input is changed by one unit, holding
all other things constant. Hence, a marginal product value for labor equal to four means that for every
additional unit of labor, there is corresponding four units of additional output produced. By definition
with labor as the only variable input , the marginal product of labor is given by the formula :
MPL= ΔQL
ΔL
Where: MPL – marginal product of labor, ΔQL for change in total output and ΔL for change in labor.
It can be observed that the value of the marginal product increases and reaches a maximum level
with the employment of 4 units of labor. Beyond this point, the marginal product declines, reaches
zero, and subsequently becomes negative.
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The phenomenon of the declining marginal product is known in economics as the Law of
diminishing returns. The law of diminishing return states that “as the use of an input increases
(with other input fixed), a point will eventually be reached at which the result in addition to output
decreases”. As more and more of an input is employed to work with a given amount of fixed
resources, this input will have less and less of that amount to use.
Average Product-Measures the output the total output per unit of input used. The productivity of the
output is usually expressed in terms of its average product. The greater the value of average product,
the higher the efficiency in physical terms.
APL= TPL
QL
APL is the average product of labor, QL is the total product of labor, and L is the number of workers.
The average product can be derived by obtaining the slope of the line from the origin to any point on
the total curve (Figure 5.2). The slope of any such line is equal to the height of the QL curve, divided
by its length measured along the horizontal axis (i.e. input level). Starting from the origin, the slope
increases until it reaches point A. At point A, the imaginary line form the origin is tangent to our total
product curve. Beyond this point, for instance point B, we now notice that the slope begins to
fall(flatten) as the input level further increases. Hence average product increases and reaches a
maximum point (at A) when an imaginary line from the origin is tangent to the total product curve.
Beyond this point, average product decreases
Marginal product is constructed from discrete changes or as the slope of any line connecting two
points along QL as L is changed by one unit. For every small changes, however, the marginal product
of labor can be obtained as the slope of the graph at any point on the total product curve (Figure 5.3)
The slope of total product curve increases and reaches a maximum level at point C. Point C is where
the curvature of the total product switches. After this point, the slope begins to flatten as input is
increased and becomes parallel to the X-axis at the maximum level of output, at D. beyond this the QL
curve becomes negatively sloped.
Comparing the average product and the marginal product curves, we noticed that marginal product
peaks earlier. Furthermore, it intersects average products at the latter’s maximum point. A simple
“rule of thumb” can be derived from this behavior; if APL increases, it is below MPL ; however, when it
decreases, it is above MPL.
TABLE 5.2 Average Product of Labor
(1) (2) (3)

Labor Total Product Average
of Labor (QL) Product of
Labor (APL)
0 0 0
1 2 2
2 6 3
3 12 4
4 20 5
5 26 5.2
6 30 5
7 32 4.5
8 32 4
9 30 3.3
10 26 2.6

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Combining the total product, average product and marginal product curves in one diagram, we can
delineate three distinct stages of production for labor : Stages I, II and III as depicted by figure 5.4.
Stage I is bounded by the Y-axis and the intersection of MPL and APL curves at point A. Stage II
starts off from the MPL-APL intersection and ends where MPL is equal to zero at point D, implying that
QL maximum. Stages III begins where MPL is zero and covers the area where the value of MPL is
negative and QL is falling,
In stage I of the diagram, all the product curves are increasing. As the amount of labor increases,
total product also increases. The increase in average product implies an increase in labor productivity.
As more and more workers are employed, their average output increases. Stage I stops where APL
reaches its maximum at Point A. the initial increase in marginal product illustrates that output
increases at an increasing rate. However, as shown by the peaking and then declining of the marginal
product at point C and beyond, respectively, it is also in this stage of production, on the other hand,
that the law of diminishing returns begins to manifest.
Stage II of the production starts where the APL of the input begins to decline. Marginal product is
continuously declining and reaches zero at point D, as additional labor inputs are employed.
Stage III starts where the MPL has turned negative. In this last stage of production, all products
curves are decreasing. At this stage, total output starts falling even as the input is increased and it will
be totally or absolutely inefficient to employ any additional input of labor.
Firms will not employ any additional amount of labor at Stage III. Reducing labor inputs would even
be more beneficial. In stage I the amount of fixed inputs that each unit of the variable input utilizes
has not yet been fully exploited. It is neither efficient nor optimal to remain in State I as the
productivity of the variable input is still rising. Thus, with the elimination of Stage I and II as efficient
options, we are left with stage II as our relevant stage of production.
Costs of Production
Short Run Costs Analysis
Total Fixed Cost- Total fixed Costs (TFC)- is more commonly referred to as “ sunk cost” or “
overhead cost”. Item in this type of cost include the payments or rent for land, buildings, and
machinery. Fixed cost is independent of the level of output produced. This is depicted as a horizontal
line (Figure 5.5). The line is characterized by a slope equal to zero, hence, any change in output elicits
no change in total fixed cost.
TABLE 5.3. COSTS OF PRODUCTION
(1) (2) (3) (4) (5) (7)

Total Labor Total Total Total Marginal
Product (L) Fixed Variable Cost cost
(QL) Cost Cost (TC) (MC)
(TFC) (TVC)
0 0 100 0 100 -
1 6 100 30 130 30
2 10 100 50 150 20
3 12 100 60 160 10
4 13 100 65 165 5
5 15 100 75 175 10
6 19 100 95 195 20
7 25 100 125 225 30
8 33 100 165 165 40
9 43 100 215 315 50
10 55 100 275 375 60
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Total Variable Cost- refers to the costs that changes as the amount of output produced is changed.
Examples for this type of costs includes purchases of raw materials, payment to workers, electricity
bills, fuel and power costs. Total variable costs increases as the amount of output increases (Table
5.3). if no output is produced, then total variable cost is zero; on the other hand, the larger the
output, the greater the total variable costs. This is depicted as an upward sloping curve starting from
the origin ( Figure 5.5)
Total Cost – by combining total fixed cost and total variable costs, we arrive at the Total Cost (TC)
incurred by the firm. By definition, total costs represents the least costs needed to produce each level
of output. As the amount of output increases, total costs of the firm also increases. (Figure 5.5), the
Total cost curve starts from the known level of total fixed cost and then rises accordingly to the
behavior of total variable cost. It must be noted that the vertical distance between the total cost and
total variable costs curves at each level of output is a constant amount, which is accounted for by the
total fixed cost. Hence, these two curves will never intersect.
Per Unit Cost
Marginal Cost- additional cost incurred for an additional unit of output produced. Mathematically
,marginal costs is defined as
MC = ΔTC
ΔQ
Where MC is marginal cost, ΔTC, is the change in total cost, and ΔQ is the change in output.
Using table 5.3, the marginal costs for the first unit of output can be obtained by taking the difference
between the current and previous values of total cost and dividing this by the difference between their
respective level of output. Hence,
MC1 = TC1 – TC0

Q1 – Q0
Where MC1 is the marginal cost for the first level of output, TC is the total cost for the first level of
output, TC0is the total cost of production when no production takes place, Q1 is the quantity
produced for the first level of output a, and Q0 is the zero production level.
Average Cost (AC)- is the total cost per unit of output. Mathematically,
AC = TC
Q
Where AC is the average cost of production, TC is the total cost of production, and Q is the level of
output. As output expands, the Ac first decreases, reaches a minimum, then increases indefinitely. In
plotting its values, the average cost curve is also U- shaped.
TABLE 5.4 AVERAGE COSTS OF PRODUCTION

TOTAL PRODUCT TOTAL COST AVERAGE COST
(Q) (TC) (AC)
0 100 -
1 130 130.0
2 150 75.00
3 160 53.30
4 165 41.25

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5 175 35.00
6 195 32.50
7 225 32.10
8 265 33.00
9 315 34.00
10 375 37.50
Average Variable Cost- variable cost per unit of output. To obtain this, we simply total variable cost
by its respective output level. Table 5.5 shows that average variable cost initially decreases, reaches
its maximum level and then starts to increase.
By drawing imaginary lines form the origin to any point on the variable cost curve, the slopes of these
lines declines and, subsequently, increase beyond a certain point. This results in a U-shaped AVC
curve when plotted on a per unit cost diagram
TABLE 5.5 AVERAGE VARIABLE COSTS OF PRODUCTION
TOTAL PRODUCT TOTAL VARIABLE AVERAGE

(Q) COSTS VARIABLE COST
(TVC) (AVC)
0 0 -
1 30 30
2 50 25
3 60 20
4 65 16
5 75 15
6 95 15.8
7 125 19
8 165 20.6
9 215 23
10 275 27.5
Average Fixed Costs- refers to the fixed costs per unit of output produced. Since fixed cost is a
constant value of any level of output, average fixed cost would steadily decrease when divided by an
increasing output level.
If we combine per unit cost curves in one diagram, we can derive a unique relationship between MC,
AC and AVC. (FIGURE 5.8 ) shows that marginal cost curve is being the first to bottom out. Next
comes the AVC, then the AC. As soon as the marginal cost rises as output increases, the MC intersects
average variable cost at its minimum point. ; then the MC crosses the average cost also at its
minimum point. Notice that whenever average cost or average variable cost declines, each curve can
be found above marginal cost. Likewise, as either the AC or AVC increases, each is below MC.
Why do the curves behave in such manners? If the marginal cost of production is less than the
average cost, this implies that the additional cost of an extra unit of output is smaller than the current
average. Adding this cost value and averaging through once more tends to decrease the average cost.
On the other hand, if marginal cost is above average cost, the opposite is observed. An additional cost
greater than the previous average cost tends to pull up the new average cost value
Finally, it should be logical that if the additional unit of output costs exactly the sane as the a average
cost of the previous output levels, i.e. MC=AC, producing the additional output will not cause a change
in average cost. The same line of reasoning applies in understanding the relationship between
marginal cost and average variable cost.
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In stage I of production, marginal product first increases, reaches its peak and then declines as it
approaches Stage II. At Stage II, the MP continues to decline until it becomes zero. At stage II, the
MP negative in value. The rising portion of the marginal product corresponds to the declining portion
of the marginal cost. This means that the marginal cost of output declines when the additional output
produced by each additional unit of input is still increasing. However, when diminishing returns set I,
the MC starts to rise. The marginal cost of the production of an output increases because the
additional output produced by an additional unit of input falls. Thus, it can also be concluded that the
maximum point of the marginal product corresponds to the minimum point of the marginal cost.
Explicit cost-refers to the cost of any resource used in the direct production of a commodity which
requires monetary outlay.
Implicit cost- cost of production which refers to the cost of self-owned or self-employed resources.
The underlying basis of these cost values is what is known as opportunity or alternative cost. This
is the value of the resource needed to produce a good based on its best alternative use.
Long- Run Cost Analysis
In the long run, a firm can change the amount of fixed input used.. The long run cost curve (figure
5.10) which starts from the origin, then rises as output increases. Note that the total fixed cost curve
no longer exists in the long run.
The long-run average cost curve can be derived by drawing a curve which envelopes, or “ support” all
the short run average cost curves from below. The long-run average cost curve shows the lower limits
from which firms can (theoretically) choose an infinite number of short-run average cost curve. The
factors that drive the long run average cost curve downward, as operations expand., are called the
economies of size ( e.g. division of labor and technological factor). On the other hand, the rise in
long run average cost is due to diseconomies of size ( i.e. limited efficient management and limited
amount of resources).
Similar to the long- run average cost curve, the long run- marginal cost also envelopes short run
marginal costs. Just like the relationship between the average cost and marginal cost curves, the long-
run marginal cost also intersects long-run average costs at its minimum point. (Figure 5.12)
Production Analysis with Two Variable Inputs
Cost Minimization
Given two variable inputs as well as the cost of the inputs that we utilize in production, we can derive
the combination of inputs that would give us the lowest cost possible. This is possible by looking into
the behavior of the isoquant
An isoquant illustrates different input combinations, in the production of a fixed level of output,
holding other things constant.
A family of isoquants is called an isoquant map.( figure 5.14)
Three main characteristics of the isoquant curve: it is negatively sloped, convex to the origin an non-
intersecting. If we allow isoquants to intersect, the point of intersection will mean that a single
combination of inputs can produce two different levels of maximum output. The downward slope of the
diagram reflects the substitutability, to some extent, of input use in production. If the amount of labor
used decreases , to produce the same level of output, the amount of capital must increase. Lastly,
convexity of the graph tells us that inputs are not perfect substitutes.

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It can be noticed that as more of an input is used, the more difficult it is to substitute this for another
input. This is called the principles of diminishing marginal rate of technical substitution. The
marginal rate of technical substitution (MRTS) is simply the slope of the isoquant. As we move from
left to right(Figure 5.14), the slope decreases signifying the difficulty in the substitution for inputs as
one input continually increases in quantity.
If we are given fixed market prices of inputs, we can trace the line that shows combinations of inputs
which satisfy the firm’s cost of production. This line is called the isocost. (figure 5.15) shows the
isocost to be straight line and negatively sloped. The higher the level of the isocost, the higher the
cost of the firm. The isocost is linear indicating that the cost of inputs is constant.
Any combination of resources along this line shows the same level of cost entailed on production.
Furthermore, the slope of this line is known as the market rate of trade off (MRTO)
The Perfectly Competitive Market
Features of a Perfectly Competitive Market
a. Smallness of buyers and sellers relative to the market – This means that there are
numerous buyers and sellers in the market such that each one will be “too small” to affect the
market price of the good. In essence, none of the economic agents will have any control
whatsoever on the price of the commodity
b. Homogenous products- this means that from the consumers’ point of view, there is no
perceived distinct difference among the products being sold in the market. If such is the case,
then it implies that there would be no reason for consumers to patronize one’s seller products
over another particularly with respect too quality of none-price attributes. It also renders an
attempt at advertising ones’ product useless or baseless since buyer’s will not be able to tell
the difference among goods anyway.
c. Absence of artificial restraints or control- this has particular preference to allowing the
forces of demand and supply to work freely toward the determination of equilibrium price and
equilibrium quantity. As such, artificial controls like government-imposed price ceiling and
floor prices which distort the market have no business in the perfectly completive market. So
too are other forms of distortions and restrictions like taxes and subsidies among others.
d. Perfect mobility of goods and resources- this particular feature presupposes free entry
and exit of goods and resources both in the geographical and business senses, i.e. for firms,
this implies that they can bring their products to geographical locations of their choice without
any deterrent or hindrances; in the same vein, factors of production can get or be employed
wherever firms or households deem they should. This is also to say that factors are mobile
between industries, even for those specific resources required by specific industries.
Furthermore, potential firms can easily enter and industry., ie. Engage in the same business
for whatever purpose it may serve them, or leave the industry without much should their
business acumen signal them to do so.
e. Perfect information- this assumes that consumers have absolute knowledge of what
commodities are offered for sale (inclusive of qualities and characteristics), where they can get
them, and what price is being charged for them. In the same manner, producers are perfectly
knowledgeable about the products that consumers need and want and what price would entice
consumers to buy ( notwithstanding the potential profits that may accure at such a price).
Demand Curve Faced by the Firm
As opposed to the downward sloping market demand curve, the firm competition faces a perfectly
elastic demand curve actually, this horizontal demand curves shows how the firm “sees” or perceives
the demand curve it is facing. The equilibrium price is still determined in the market by the forces of
demand and supply. However, since the firm cannot control the market price, owing, to a large extent,
to its smallness relative to the market, the firm can actually sell as much output as it want at the
prevailing market price without influencing the same. (Figure 6.1)
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Revenues of the Firm
Profits are equal to the difference between a firm’s total revenues and total costs.
Total Revenue (TR) is the firms gross income from the sale of its product. Mathematically, it can be
derived by multiplying the price at which the good is sold (P) by the level of output sold (Q). thus we,
have
TR= P. Q
Marginal Revenue (MR) is the additional revenues earned from each additional unit of output sold.
It is equal to the ratio of the change in total revenues (ΔTR) and the change in output (ΔQ). Marginal
revenues is an important concept because it indicates the rate of change of total revenues with
respect to the changes in output. It therefore represents the slope of the total revenue schedule.
Mathematically,
MR= ΔTR
ΔQ
Average Revenue (AR)- is conventional measure of “ efficiency “ in sales. This tells us the average
income from one unit of output produced. Average revenue is total revenue divided by output.
AR = TR
Q
TABLE 6.1 PROFIT MAXIMIZATION FOR A PERFECTLY COMPETITIVE FIRM AT DIFFERENT

OUTPUT LEVELS
OUTPUT PRICE TOTAL MARGINAL AVERAGE

(Q) (P) REVENUE REVENUE REVENUE
( TR) (MR) (AR)
0 200 0 - -
1 200 200 200 200
2 200 400 200 200
3 200 600 200 200
4 200 800 200 200
5 200 1,000 200 200
Short-run Profit Maximization
Firms profit (∏) by subtracting total cost from total revenue. ∏ = TR- TC
The way economist define profit is not identical to how accountants point of view, profit is defined as
the difference between gross income and total explicit costs. From an economic point of view, profits
(i.e. economic profits)refers to the difference between total revenues and total explicit and implicit
cost.
Assuming that the firm’s objective is to maximize profit, it needs difference between total revenues
and total explicit and implicit cost.
Assuming that the firm’s objective is to maximize profit, it needs to identify the price and quantity of
output that will generate the largest surplus of TR over TC. This problem is a lot simpler in a perfectly
competitive market because the firm is a “price taker”. Hence, it only needs to determine the profit
maximizing level of output

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Profit Maximization Using the Total Revenue and Total Cost Curves
 The firm maximizes its profits when it equates its marginal revenue to marginal cost. Since the
output price and marginal revenue are equaled in a perfectly competitive firm, the profit
maximization condition can be summarized as : P=MR=MC
Profit Maximization using the “per unit” Curves
 The profit maximizing condition requires the equality between marginal revenue and marginal
cost
 Total revenue is equal to price multiplied by output.
 Profits are equal to the difference between total revenues and total cost.
LONG-RUN ANALYSIS
In the long run, firm are able to attain the level of output they wish to produce, and do so more
efficiently through their opportunity and ability to adjust their plant size. Aside from this, firms can
enter or exit the market whenever they please. Such actions will have corresponding consequence on
the level of output in the market or industry.
For any firm participating in the perfectly competitive market, long run equilibrium is achieved when
the long-run marginal cost (LMC) is equal to the marginal revenue of the firm and price in the market.
The firm earns profit whenever price is above the minimum point of the average cost curve. If profit
can still be achieved in the industry, it will serve as a signal for other firms to enter into the market.
The entry of a new firms increases the output supply of the industry, and results to a downward shift
in the supply curve. This causes the market equilibrium price to fall. The consequence at the firm level
is a fall in the marginal revenue and, subsequently, on the profit-maximizing output level of each firm.
Note that individual firms profit will fall. This process continues as long as profits are still positive in
the industry. Entry will stop once there is no more economic profit to be made. At this point, the
market will be in long-run equilibrium. It occurs once the long run marginal cost (LMC) is equal to
marginal revenue (MR), price (P) and the short-run marginal cost (SMC) curves. At such a point, long-
run average cost (LAC) equals both the short-run average cost9SAC) and the price. At this condition,
firms will not incur losses. Hence, they will have no incentive to leave the market.
Constant Cost Industry
An increase in the demand for a commodity forces the market equilibrium price and firm marginal
revenue to increase. Thus, a temporary “long run” disequilibrium results since there is an opportunity
for profit to be made. The market will adjust
Imperfect Competition
Imperfect Competition – is a market situation where individual firms have a measure of control
over the price of the commodity in an industry. In other words, a firm that can affect the market price
of its output can be classified as an imperfect competitor. Normally, imperfect competition arises when
an industry’s output is supplied only by one, or a relatively small number of firm’s.
Aside form firms having some discretion over their own prices, imperfect competitors may or may not
have product differentiation, discernable differences among commodities sold by firms. Product
variation gives rise to deviations in the prices of commodities.
A firm in an imperfect market faces a downward sloping demand curve in contrast to that of the firm
in a perfectly competitive market.
Sources of Market Imperfection
1. Barriers to entry
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2. Existence of significant differences or advantages in cost conditions

Barriers to Entry
They may arise because of constraints in the market or because of legal restrictions imposed by the
government. These obstacles are commonly known as natural or artificial barriers
a. Artificial barriers to entry- are legal restrictions like patents and exclusive franchises. A
PATENT gives its inventor exclusive rights for the manufacture, sale, and use of the product
made over a period of time. Exclusive franchises are permits awarded by a government
institution to a single or group of firms in the production of a good or services.
Common conditions that may occur in the market that give rise to a natural barrier to entry
a. The demand for a certain commodity in the market may be too small to warrant entry to
numerous firms.
b. A firm’s production functions exhibits increasing return to scale.
Cost Structure of the Imperfect Market
 In a perfectly competitive market, the total industry demand is so large relative to efficient
scale of any one seller. This is illustrated in Figure 7.1. This condition permits the coexistence
of numerous perfect competitors
 In contrast, is a firm has an average cost and a marginal cost that continually fall as the
amount of production increases up to a certain point of market demand, the firm has, in its
capacity, ways of organizing its work teams with more elaborate ways of specialization in
activities to be more efficient. (Figure 7.2)
Under PCM, the average cost curve fist fall, levels out and turns up before it intersects the demand
curve. Under imperfect conditions, however, the industry market demand may not provide a sufficient
size, to enable numerous firms to coexist at the most efficient level of operation because the average
cost curve does not turn up soon enough. Whenever the market allows the entrance of only a few
sellers, an oligopoly situation may occur (Figure 7.3)
Types of Imperfect Market
 Monopoly- is market situation where a single seller exist and has complete control over an
industry
 Oligopoly- market structure with few sellers
o Pure Oligopolies- firm sell a practically homogenous products, the same kind of
commodity. (Ex. Cement industry)
o Differentiated Oligopolies- firms sells product that vary in quality.
o Collude- firms act as one, like a monopoly, by setting a price level that maximizes
profit for the whole industry and setting quotas in the production of each firm.
 Imperfect collusion- firms have no formal arrangement under which thet set
the level of price or output, although they adhere to some informal
agreements.
 Perfect collusion- if a handful of firms formally establish a binding
agreement on price and output in the market.
 Centralized cartels- have a committee composed of members from
representative firms who determine the level of price, output and
revenues of the firm
 Market sharing cartels- have an agreement regarding each firm’s
share of the market.
 Monopolistic Competition- occurs when there are many sellers producing differentiated
product. Similar to a perfectly competitive market structure, there are a large number of
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sellers that can enter and exit the market without any barriers. The difference between this
market type and perfect competition is that sellers in monopolistic competition can vary
product characteristics. Furthermore, firms have slight control over the price of the commodity
and they advertise to attract customers.
Nature of Monopolies
 Pure monopoly- market for a good that has no good substitute
Misconception about monopolies
a. Monopolist does not ensure the firm instant profit- there are instances when the monopolist
costs are so high and the market size is very small
b. It is not true that the firm can impose any price it wants- the maximum price the monopolist
can charge is dictated by the market demand the monopoly faces. Given the market demand,
the monopolist cannot increase its output and the price it charges at the same time. If the
monopolist want to sell more, it should be ready to reduce its price
c. A monopolist cannot maximize profit at the inelastic region of the market demand curve.
Higher prices translate to a relatively more elastic demand.
Demand and Marginal Revenue Curves of the Monopolist
 The demand curve faced by the monopolist is the same demand curve faced by the whole
industry. It is downward sloping.
 Total revenue (TR) can be obtained by multiplying price with quantity sold. To get marginal
revenue(MR), we increase the level of output by one unit, determine total revenue, then
calculate the difference in total revenue. Similar to the perfectly competitive market, the
average revenue (AR) faced by an monopolist (the total revenue divided by output is also
equal to price. This time, however, MR≠AR, and MR≠ P.
Example
Table 71. Demand for output, price, total revenue and marginal revenue of a monopolist
Output (Q) Price (P) Total Marginal

Revenue(TR) Revenue(MR)
0 200 0 -
1 198 198 198
2 196 392 194
3 194 582 190
4 192 768 186
5 190 950 182
6 188 1,128 178
7 186 1,302 174
8 184 1,742 170
9 182 1,638 166
10 180 1,800 162
11 178 1,958 158
12 176 2,112 154

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As the quantity produced increases and as the price drops, the additional (marginal) revenue to the
firm is consistently lower than the price. The reason why the additional revenue from increasing
output by one unit will be less than the price charged on the last unit is because he can no longer
charge the previous output at the higher price as well. For the original output level, the firm further
experiences a reduction in total revenue.
Monopolist’s Profit Curve
A bell-shaped curve similar to the perfectly competitive firms’ can be derived. At output levels less
than Q*, the firms total profits will decrease. It will then pay to increase more output. Similarly the
firms profit, will decline if the level of output is beyond Q*. compared to the perfectly competitive
firm’s profit curve, the monopolist experiences a drastic decline in profit at output levels beyond 10
units. This is due to the rapid decrease in total revenue coupled with a rapid increase in per unit cost
of output.
Short-run Supply Curve of the Monopolist
Unlike the perfectly competitive market, the marginal cost curve of the monopolist does not reflect the
short-run supply curve. First, the monopolist does not produce output at the levels where MC= P.
thus, the price at which it will be willng to produce any given output is ambigious. Given two different
demand curves, it is possible for their marginal revenue curves to intersect the marginal cost curve at
the same quantity. This will induce the firm to produce at the same level of output but prices will be
inconsistent. As market demand changes, one may be able to observe or trace a direct price-quantity
supply relationship, but such a curve will not trace the MC curve of the monopolist. The curve will not
reflect the social marginal opportunity cost of providing the good.
Long-run Profit Maximization
Unlike the perfectly competitive firm that ends up zero economic profit, the monopolist can continue to
benefir from positive profit in the long run.
In the real world of exploiting monopoly power, there is not compelling reason for the monopolist to
operate at the most efficient plant size. As long as the monopolist continues to earn positive profits in
the short-run (as no entry of new firms occur to provide competition), the profits may continue to
persists in the long run. The monopolist, however, does not need to invest in attaining the most
efficient plant size to maintain positive profits.
Regulation of the Monopoly
Lump Sum Tax
Fixed amount levied on, and paid by, companies at a certain period of time. The lump sum tax has no
bearing at all on the firm’s subsequent level of output. The imposition of a lump sum tax increases the
fixed cost of the firm but does not change the variable cost (figure 7.9)
Specific Tax
A specific tax is a from of taxation where the amount of tax is directly proportional to the level of
output produced. As more output is produced, the tax paid by the firm also increases. A specific tax
will therefore, affect the variable firm of the firm.
Unlike the lump sum tax, part of the specific tax can be passed onto the consumers in the form of
higher prices and lower levels of output. The consumer definitely becomes worse off.

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Price Regulation
A price regulation is a set of price imposed by the government with the aim of enhancement the
welfare of the consumers. If firm behavior in the perfectly competitive market is used as a basis for
efficiency in the monopoly, the step ice should be where the willingness to pay by individuals for the
last unit of output is equal to the additional cost in producing the last unit of a good. Thus, price must
be equal to marginal cost.
REFERENCES AND FURTHER READINGS
COSTALES, A.C., BELLO, A.L., CATELO, M.A.O., CUEVAS, A.C., GALINATO, G.I., RODRIGUEZ,
U.E. 2000. Economics: Principles and Application. JMC Press. Quezon City, Philippines.
LAURETO, A. 2004. Review / Lecture Notes in Agricultural Economics and Marketing: Microeconomics.
IN Preparation for the Licensure Examination for Agriculturists 2004. CEC, CMU, Musuan, Bukidnon.
SICAT, G.P. 1983. Economics. National Book Store Publishers. Metro Manila Philippines.
TAUTHO, C. 2004. Review / Lecture Notes in Agricultural Economics and Marketing: IN Preparation
for the Licensure Examination for Agriculturists 2004. CEC, CMU, Musuan, Bukidnon.
“NOTHING GREAT WAS EVER ACHIEVED WITHOUT ENTHUSIASM”
RALPH WALDO EMERSON
END OF REVIEW MATERIAL IN MICROECONOMICS

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MICROECONOMICS

AGRICULTURAL ECONOMICS AND MARKETING

Based on the above definition, the following statements can be made:

1. That economics is a science, specifically a social science

The definition has four concepts namely:

General Types of Economic Resources

1. Natural resources (land, forest, mines and other products of nature)

REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 2

 The study of economics as an objective science

ECONOMIC PROBLEMS/ SCARCITY AND THE BASIC ECONOMIC QUESTIONS

Scarcity and choice

Important concepts related to scarcity

Opportunity Costs- refers to the value of the best foregone alternatives.

 What and How much should we produce

The Economic Problem

How Much to Produce?

For Whom to Produce?

TECHNOLOGY CHOICES AND PRODUCTION POSSIBILITY FRONTIER (PPF)

As a model, it necessarily embodies many simplifying assumptions so as to focus in the essential

a. Only two goods are produced : food and clothing

REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 4

Economic resources or factors of production

 Capitalism-Under capitalism, the means of production, known as capital , are owned by

The Philippine System

 The Philippine Economic system is a private enterprise, capitalistic economy. It represents a

Alternative Economic System

 Custom Economy- functioning of the economy is governed by customs, beliefs, and

REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 5

ENTERPRISES AND THEIR ORGANIZATION

Single Proprietorship-A proprietorship is a business owned by a single person. Because it can be

Features of single proprietorship

 Small business-the single proprietorship is likely to be a very small business. A single

Corporations-A corporation is a form of business organization in which the owners (known as

 Continuous life- a corporation is a juridical person. Therefore, it can sue or be sued. It “

DEMAND, SUPPLY AND MARKET EQUILIBRIUM

Illustrations of the demand function

Demand schedule for denim pants

REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 7

 Equation.- quantity demanded (Qd) is expressed as a mathematical function of price (P).

Ways of presenting supply

 Supply schedule- tabular representation of supply

TABLE . Supply schedule for denim pants

Price of denim pants Quantity supplied per

REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 8

CHANGES IN QUANTITY DEMANDED AND QUANTITY SUPPLIED (MOVEMENT ALONG THE

Shift in the Demand and Supply Curve

 Shift in the demand curve-happens when there is a change in demand-caused by a change

Prices of related commodities in consumption-

REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 9

REVIEW FOR LICENSURE EXAMINATION FOR AGRICULTURIST 10

 If elasticity is measured at a single point on the demand curve, it is known as Point

TABLE. Elasticity Values

Elasticity Values Description

|€| = 0 Perfectly inelastic

|€| < 1 Inelastic

|€| ≠1 Unit Elastic

|€| > 1 Elastic

|€| = ∞ Perfectly elastic

Price Elasticity and Total Revenues

Price change Elasticity Change in total

Increase Unit Unchanged

Determinants of Price Elasticity of Demand

Income Elasticity of Demand