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Microeconomics	Lecture21_Effect_of_Price_Control_on_Surplus.txt	So, we are talking about consumer surplus, producer surplus, and what we have done just now is, that we have calculated total surplus that is equal to consumer surplus plus producer surplus, and we also talked about that what happens to the market when government imposes certain restriction on it like price ceiling or price floor. So, let us see, now let us combine these two topics and see the effect of total surplus for the society in case when government imposes a price ceiling. So, let us say, let us continue with our example; numerical example that we took, where what we had, the demand is equal to demand was Q is equal to 10 minus P and supply is let us put here, superscript and subscript and supply is P minus 2 and just we solved it right now. So, what did we get? The equilibrium quantity is 6 and the equilibrium price is 4. 4. And how much is the total surplus that we calculated? How much was the total surplus? 8 Consumer surplus with that calculated was equal to 8. 8. Check in your notebook and producer surplus was also equal to. 8. 8 and total surplus that we obtain was 16. Now, let us say, government says that this particular good cannot be sold above price level let us say 3, it can be 3 rupees 3 dollars. Right now, we are deliberately not mentioning the unit. So, just think in terms of 3 units. So, let us say 3 is here. Let us use a different color pen to the green shaded region is 16 and now when the government says the price ceiling; government imposes a price ceiling of 3 units. What happens to the total surplus? How much is consumer surplus first? Total surplus is equal to consumer surplus plus producer surplus. So, we need to calculate first consumer surplus and how much is the consumer surplus. If I erase this shaded portion and now this, can you tell me which area will give us consumer surplus in this case? How many units of this particular goods will be bought and sold in the market? Can you tell me? quantity. Quantity supplied and that is equal to. P minus P minus. P minus 2. 2. So, this is 1, 1 good will be bought and sold in the market. So, can I say this is the area that shaded area will give you consumer surplus? Yes sir. Why? Because even though some of the consumers can buy the goods produced by seller, who are willing to sell it in the market, but the transaction will not take place just because of governments restriction. So, only 1 unit will be bought and sold. So, the area is going to equal to this particular area. Can you calculate how much is that area? This is 10, this is 3, this is 1 and how much is this? 3. This point is. 3. 7. 7. 7. So, consumer surplus is going to be 7 minus 3 into 1 that is the area of rectangle, but we have left out the triangle at the top of this rectangle. How much is the area of the triangle? 1 more. Half multiplied by 10 minus 7 multiplied by. 1. 1 and so how much do we get? 4 plus. 1 point. 1.5, so total 5.5. Similarly, can we calculate the producer surplus? Let us say, producer surplus is this area, this triangle. How much is that area? 1.5, that is half multiplied by 3 minus 2 multiplied by it is 1.5 or 3.5, half multiplied by 3 minus 2 multiplied by 1. point five 0.5. So, what is happening to the total surplus 5.5 plus 0.5 and that is equal to 6 and what is happening to this area? The area shaded by blue color, what is happening there? This is 6, sorry. What is happening to that area? What does it reflect? Loss to whom? Loss to the society and of course, but in a way look at it, here at this point at this particular point, we have some consumers whose valuation for the product is higher than the marginal cost of some of the producers. So, if the transaction takes place, it would make the producers better off and also the buyers better off, but just because the government has imposed this ceiling, this particular transaction is not going through. So, it is a loss to the society, if the transaction would have taken place it would have, it would have made some of the buyers better off and also some of the sellers better off, but now, because of this restriction, this transaction is not taking place. So, let us calculate the area of this triangle, how much is the area of this triangle? Let us put P Q R area. (Refer Time: 07:54). Did you calculate? sir initial That is fine, but why don’t you calculate it also? Take a moment and calculate, this is 6. So, half multiplied by 4. 4. Minus this is. half into 6 minus. Half into 6 minus. 1. 6 minus 1, multiplied by 7 minus 3, plus also, no plus. So, how much do you get? 10 sir. 10 and it is exactly equal. Let us look at it, but total surplus in the beginning was 16 and after this restriction, it is equal to 6. So, how much is the value of this loss to the society? 10. Again it is not lot in the traditional sense; it is loss with respect to what would have happen if government would not have imposed this restriction. These 10 units of benefits had accrued to the society that is not going to the society now. So, in this sense this is a loss, and this is equal to 10 units, this is called dead weight loss. So, this is called deadweight loss, missed opportunity for the society. So, although, here in this particular case what is happening? That the consumer surplus has gone down, and producer surplus has also gone down and as sum, the total surplus has also gone down, but after the point through an example that I am trying to tell you that, what happens if government interferes in the market? Then total surplus definitely goes down. In some of the cases, consumer surplus may go up or producer surplus may go up, but what you would get is, that some trade which are not realized. A triangle representing those trades and that triangle is equivalent to deadweight loss, the value the gain to the society that is missed, because of the market intervention. So, what I am trying to tell you, that whenever you have this kind of scenario, when you have a market where you have large number of buyers and large number of sellers, and if you leave it to the market, then again to the society is going to be the maximum when there is no interference from anyone outside the market, interference would always lead to some kind of deadweight loss. I suggest that you take an example of; here we took an example of price ceiling. How about you take an example of price floor and see what happens. You would observe similar pattern.
Microeconomics	Lecture65_Effect_of_Change_in_Price.txt	Now let us move to the second step the effect of changes in price. Let me draw some indifference curve let us say this is the budget line. Now what is this budget line this is P 1 x 1 plus P 2 x 2 is equal to I. What we have here is again do not forget the axis, this is x 1 axis, this is x 2 axis. So we are drawing the indifference map and we are getting the optimal bundle using the budget constraint fine. So, what will happen let us say if P 1 decreases? If the amount of good 1 purchased to increase. The amount of good 1 ok. It will increase. That is the result that we do not know. Ok it depends on various factors that we will learn shortly, but what we are certain about is that this budget curve budget line we will rotate in anti clockwise direction pivoted at this point because price of good 2 is not changing. So, it is going to be something like this, fine. So, let me draw one more indifference curve something like this. So, earlier we had this is the x 1 star the new x 1 star let us denote it by dash. So, what is happening in this particular case what is happening the amount of good 1 demanded it has increased, but that is not the idea the idea is to figure out the curve. That we obtain by keeping everything else fixed in this economy and changing. Price. Price of; Good 1. Good 1. And of course, as we change the price of good 1 we will get different budget line. And correspondingly we will get different consumption bundle the optimal consumption bundle. So, a curve that passes that passes through all these optimal bundle is called. Price consumption. Price consumption. Path. Path; price consumption path or price consumption curve does not matter. So, let me give you the definition price consumption path of a good for a consumer is a curve of course, curve on his indifference map that traces all the optimal bundles all the optimal bundles for price consumption path of a good for a consumer is a curve on his indifference map that tresses all the optimal bundles for different level of price for good 1. While keeping prices of all other goods and income rates of that consumer is fixed of good 1. Let us put it here of good 1 fine now similarly what we can do we can take this; these optimal bundles and we can represent them in different graph. A graph where on x axis we give the optimal amount of good 1 and on y axis. Price. We give price of good 1 and of course, again from here we can figure out because how we are obtaining for different level of price of good one we are obtaining different level of different quantity of good 1 demanded. So, we can figure out all the pairs and we can draw them. Typically we will get here a . Downward. Downward sloping curve; Yeah. And this downward sloping curve is nothing, but demand curve or demand schedule. Remember what did we learn about demand schedule that demand schedule gives us the relationship between price of a good and; Quantity. Quantity demanded for that particular good while everything else in economy is; Held fixed. Held fixed so that is what we are talking about here, that everything we are talking about an economy where we have only 2 goods and some consumer. So, income we are keeping fixed and also we are keeping the price of other good fixed. So, then the graph that we get is nothing, but the demand schedule or demand curve or demand function. Now third thing that we said that we can study here is the effect of change in price of good 2 on quantity demanded of good 1 that we have just learned we have just learned the consumption price consumption path by changing the price of good 1. So, alternatively what we can talk about is the quantity demanded of good 2 with respect to . Change in price of good 1. Change in price of good 1 ok. And if we do that what we will know again I am not getting into detail here. Here the cross effect we are talking about. So, let us say P 1 goes up and x 2 as a result x 2 also goes up. What does it mean that good 1 and good 2 are; Substitutes. Substitutes. Substitutes. Good 1 and good 2 are substitutes. And if P 1 goes up and x 2 comes down then they are. Complements. Complements fine that is what we can figure out; is it clear. Yes sir.
Microeconomics	Lecture40_Some_Axioms.txt	Let me just take an example we are talking about a world where 3 different kinds of fruits are available. Mango, oranges and mango, orange and let us say apple, it does not matter it is just for illustration, it does not matter what fruits you choose. Let us say in the one first bundle you have only mango, in the second bundle you have only 1 orange and in the third bundle you have only one apple let me also show you how you will write it mathematically. 1 comma 0 comma 0, let us say first number gives you the first it gives you number of mangoes, second gives you number of oranges, third gives you number of apple. So, in the second you will have 0 comma, 1 comma 0 and in the third you will have 0 comma, 0 comma, 1, 0 mangoes, 0 orange and 1 apple. Now, let us say there is a person who likes the bundle 1 more than bundle 2. So, 1 mango is preferred over 1 orange and 1 orange is preferred over 1 apple and how about if one apple is preferred over 1 mango. So, what is happening, mango for you is better than orange, orange is better than apple, but apple is better than mango. It happens to us that we say that if tea and coffee is there I will take tea, if coffee and coke is there I will take. Coke. I will take coffee, but coke and tea is there then I will take coke, we exhibit this kind of choice, but if we exhibit this kind of choice then one thing that you can say colloquially about this person that his choices are inconsistent and we cannot talk, I am not saying this consumer theory does not say that you cannot have this kind of preference this kind of liking. It is not saying only thing that it is saying that if you have this kind of liking we cannot use the theory that we are going to learn further to describe your choices, because there is a randomness in your inconsistency in the way you are making choices. So, when we want to talk about how a person is making choice, how a person is choosing then there should be some consistency in the way he functions, in the way he makes choices. So, I am not excluding, I am not saying that you cannot have choices of this kind, but we would not be able to talk about. So, we are putting certain restriction certain in the axiom forms in the building block form and the first axiom that I want to talk about is completeness and what does completeness mean, have you ever heard this term completeness what does it mean? that you should not have your preferences in order. No, it does not say that. It should be It does not say that it has nothing to do with the earlier example I gave you, I will come back to that example in some other property or in some other axiom, but not for this axiom or for this property. Here it is very simple, let me say again let me say start with 2 bundles x and y are any 2 bundles in the consumption set fine, x and y are any 2 bundles in the consumption set. You should be able to say one of these 3 things about x and y, either you should say able to say that you prefer you like you prefer x to y. You prefer x to y or you should be or you should be able to say you prefer y to x. And third or you should be able to say that you are indifferent about x and y. One of these 3 things you should be able to say and these things can be rewritten in a different form also you can also say that x is at least as preferred as y or y is at least as preferred as x and third, x and y you are indifferent among x and y. Here again, you have 3, but here 3 are mutually exclusive, if 1 is true you cannot have second, if second is true you cannot have first and third, if third is true you cannot have first and second, but here these are basically saying the same thing as the earlier one, but here these are not mutually exclusive. Let us say if you like x and y exactly the same then all 3 would be true, x is at least as preferred as y y is at least as preferred as x and you are indifferent between x and y. Let me also use a notation to describe it this is written as x is you prefer x to y of course, I am talking about you this is not this symbol is not the same as this is greater than this is preferred to. So, this symbol means is preferred to and this is y is preferred to x and this is you are indifferent this is sign that says indifference, is like this and here what we say just like here we its looks like similar to greater than here the symbol would look similar to greater than and equal to. What it says we are combining this and this one and this one I am bringing it here, what it says when x is at least as preferred to y as preferred as y either 1 is true or 3 is true. So, we are combining the symbol similarly here y is at least as preferred to x and here x and y. So, in other word let me just describe what does it mean, that basically any you are able to conceive different bundles in your mind and all these consumption bundles are in your consumption set when you pick any 2 bundles from this set you should be able to compare them. You should be able to compare them, you should be able to say that I like one over the other or you are indifferent between these 2. Let me describe a situation just to clarify this concept, sometimes it happens you always when you; you know you are at your home and your mother asks you that would you take tea or coffee and you are confused you are not able to say, would you call your is it does it does it exhibit completeness. By the way these are property we are talking about a choice of a person. So, I can say we are talking about preferences of a person; we are describing a preference of a person. So, the question can be that do you think your preferences are complete when you are confused between 2 different bundles here bundle is just you can say when someone is asking you coffee and tea imagine that you are in a 2 good world and you have to choose between a bundle made of coffee and tea. If you prefer tea, if you prefer tea then it is 1 tea comma 0 coffee, you can always translate the problem in the mathematical term ok. So, do you think it is complete or it is not complete, let me tell you no your preferences in this case are not complete because you are not able to compare these 2, you are confused. These are 2 different things when you are confused you are not able to compare, but when you compare in your mind and you say I do not care, I do not mind tea or coffee, it means you are you know you are indifferent between the 2. So, that is not a state of confusion is that you are not able to figure out, that situation is excluded fine, is it clear completeness is clear to you. Now, let us talk about second axiom and that is sounds little you know let me warn you it sounds its bit weird. But it is more of a mathematical requirement, reflexivity. Reflexivity, what it says that you have a bundle and when you compare this bundle with the same bundle then you should be able to say that I prefer the first bundle at least as much as the original bundle. So, when you have x a bundle in the consumption set capital X this reflexivity property says that x is at least as preferred as x and it sounds a little funny, but what is the need to talk about it. You know it is there is a 1 condition where the one situation where you should not talk about it, remember if some of you must have done mathematics. So, you know this set x or let me denote it using A 1 2 3 this is a set A and this is a set 1, comma 2, comma 3, comma 1 by set theory definition A and B are the same set. The only difference between a and b and that you know A and B are equal that one is mentioned here twice. So, the flexibility is for this kind of scenario, what if you pick this bundle and this bundle they are the same bundle, but there means in twice. So, even in this scenario you should be able to compare them that is what it is saying. So, it is more of a mathematical requirement then in economic in nature, third property that I want to talk about is transitivity and this is bit more problematic first and second are that you should be able to compare that is what first and second are talking about transitivity on the other hand is talking about that not only you should be able to compare, you should be able to compare them in consistent fashion. So, what it says let us take now 3 bundle x, comma y, comma z in X, if you say x is at least as preferred as y is at least as preferred as z then it implies that x is at least as preferred as z and remember the earlier example I gave you mango, orange and apple. There this property violated, many times this property is not you know this property is violated in our real life, but when we are doing such thing probably we are not thinking enough we are you know or probably we are not thinking enough and or we have inconsistent preference it would be difficult for to make prediction about this scenario ok. Let me also say is this clear what it means is let us just say here on these 2 axis x one x 2 let us take 3 here is xy xy and z you are able to compare any 2 bundle you are picking x and y by first property you should be able to compare them and let us say. You say x you prefer over y and then you pick another 2 bundles z and y and you figure out that y is at least as good as z then you should be able to say x is at least as good as z fine, now let me say you may feel that what I am saying is excluding various realistic scenarios. Let me talk about a very realistic scenario, again coming back to that example. Mango, orange, apple I am talking about it because you may feel that by using this making this assumption we are excluding various realistic scenarios, but those realistic scenarios are really bad. If you can look at it from this using this example, let us say that you have this kind of preference that you prefer mango over orange, orange over apple and apple over mango and let us say in the monetary term that you are willing to you know let us say if I move you from orange to mango you will pay me at least 1 rupees because you like mango more. So, of course, you are willing to pay more for mango even though the price in the market is lower, that is immaterial right here. I am talking about your likings. So, let us say you have a orange and I have a mango. So, what we can do and you are willing to pay at least 1 rupee probably more than 1 rupee for getting this mango exchanging this. So, what I can say that I will give you mango you give me orange and one rupee. So, now, let us say I start with there are 2 person, the person 1 has a mango and 1 apple and person 2 has orange and this is person 2 choice. So, now, after this what I have is 1 orange, 1 apple plus 1 rupee and this person has now mango and here now let us look at it between mango and apple this person prefers apple and his willing to give up at least 1 rupee then we exchange this apple with his mango. So, now, I give him an apple and take his mango. So, what do I have now 1 orange 1 mango and 2 rupees and what does this person has now. Apple fine. Now we continue with this we say between apple and orange this person prefers orange, I say I will give you orange that is originally his orange and here he has minus 1 rupee minus 2 rupee. Now, I will give you orange and happily he will give me the apple along with 1 rupee. So, what I will have now after I give up my orange and take apple from him, I will have 1 mango 1 apple plus 3 rupees and what this person will have orange that he has earlier minus 3 rupees. So, each step on each step if he moved from here to here, here to here, here to here all these transactions were beneficial to him, but we added up all the transaction he is having a net loss of 3 rupees. So, why because he has inconsistent or in technical term intransitive preferences fine so, that is why we assume that a person has transitive preference if I want, we want to talk about that person in consistent manner.
Microeconomics	Lecture59_Marginal_Utility_Vs_Marginal_Rate_of_Substitution_MRS.txt	Now, let us use the concept let us learn about marginal utility, although, we talked about marginal utility earlier also, but just what is marginal utility? So, it is the amount of amount by which total utility increases every increase one good in the bundle by 1 unit while keeping all other goods in the bundle fixed. And then it is marginal utility with respect to that particular good which amount has been increased ok. So, let us say what we mean here is we have utility some utility let say for a bundle let say this is of course, if you are using notation x comma y that it donates it represents a bundle; what is happening and if we can use our earlier notation also x 1 comma x 2 what we have here is x 1 comma x 2 ok. So, what we are saying that we keep x 2 fixed while we increase x 1 by 1 unit. So, what is happening x 1 plus 1 this will be the new utility and let us say if it satisfies monotonicity, then of course, in the new bundle we have same amount of good 2, but more of good 1. So, of course, here utility will be higher. So, the increase in utility is let say that change in utility is denoted by delta U then it is going to be U x 1 plus 1 comma x 2 minus U of x 1 comma x 2. And denominator although we do not have anything in the denominator or we have 1 in the denominator; I can write it like x 1 plus 1 minus x 1 that is what we have and this this is basically defined as marginal utility with respect to x fine. But here what we are doing we are changing x 1 by one unit what is the marginal? Sir that could be delta U upon delta x No wait we will we are talk here basically is again if you have you are talking about delta U by delta x let me explain it to you; how we reach there. Basically what we are talking about here is delta U is in the numerator and in the denominator we have 1; 1 we can express as x 1 plus 1 minus x 2 and that is the that is that is equivalent to 1 and this is marginal utility with respect to x 1; I will come back to the calculus the definition that we gave earlier using calculus. Now, let us look at the marginal utility with respect to x 2; what it means? That we keep x 1 fixed and we increased x 2 by 1 unit and here we have and of course, denominator we can leave it as it is does not matter; this is marginal utility with respect to x 2, but now what we are doing? We are changing x 1 by 1 unit; what we can do that rather than changing x 1 by 1 unit. Let us look at the change in change in utility if we change x 1 by delta x 1 unit very small unit and then what we have here is x 1 plus delta x 1 comma x 2 minus U x 1 x 2 fine. And what we have this delta U is now change because of delta x 1 unit change in amount of good 1 in the bundle fine so, but delta x 1 can be anything. So, rather than talking about absolute change; we should talk about rate of change and how can we get the rate of change? If we divide it by x 1 then this is the rate of change. And here also we can divide it by we will have to divide it by delta x 1 and delta x 1 can be written as x 1 plus delta x 1 minus x 1. And now if we can take limit where delta x 1 is going to 0 what will we get? Delta U by delta delta x 1 is equal to limit x 1 is going to 0; U x 1 plus delta x 1 comma x 2 minus U of x 1 comma x 2 divided by x 1 plus delta x 1 minus x 1. And this is nothing, but the partial derivative of U with respect to x 1. So, both definitions are fine this is more precise; here we are talking about rate of change in U with respect to x 1 while keeping x 2 fixed in the bundle. This gives us marginal utility with respect to x 1; here we are taking approved way because sometime we do not know calculus, then we use this if we if we do not know calculus then we can use this definition and then we have one in the denominator because delta x 1 is 1 in that particular case fine and this is marginal utility, but here is the problem we have learned about marginal utility. Let us look at the one particular problem that marginal utility leads to. Let me just draw this problem and then I will come back to the problem that we intended to solve right in the beginning of this topic ok. So, what we will do? We will come back to that topic and we will solve it using some other technique, but we should also learn the problem with the marginal utility concept. Now, what is happening let us draw the indifference map for x plus 2 y or if we want to convert it if we want to denote it by x 1 and 2 x 1 the problem would remain the same its the same problem; does not matter. So, you can change the variable because x 1 and x 2 they are just representing the name; so, does not matter. So, here we have x 2 and here we have x 1; when we draw it how would it look like? Downward sloping with slope minus; minus 1 by 2 something like this it would look like fine and let say let us start if we can say this is we have here K 1 K two K three K four Now, instead of using this notation K 1, K 2, K 3, K 4 can I use this notation it is 2 K 1, 2 K 2, 2 K 3 and 2 K 4 or in other words rather than using x 1 plus two x2, can I use 2 x 1 plus 4 x 2; will it represent the same preference nothing would change why because utility is ordinal in nature it is about order fine So, now what we are saying that this these two utility functions; they represent the same preference nothing different. Now get the marginal utility for both of these utility function; marginal utility with respect to x 1; what will you get?. Marginal utility in case of let us say in shortcut M U 1 represent with respect to first argument we have also written it as M U x 1 and what we have is d x 1 plus 2 x 2 with respect to x 1 and we get here 1. Or what we are saying is in other word; if we do not use the calculus definition; what we can use our non-calculus definition. So, if we increase x 1 by 1 unit how much will be increase in total utility? 1 same as this fine Now, how about M U 1? In the let us denote this utility function as U and this utility function as V. So, what will be M this is U and this is V; what will be the marginal utility in this case? It is 2 again use non-calculus definition if you increase x 1 by 1 unit; how much increase will you get while keeping x 2 fix? How much increase will you get in the total utility 2; according to this. Now, what is happening in one case we are getting 1, in another case we are getting 2. So, it seems that marginal utility is related to it somehow cardinal in nature cardinal in nature; it assumes that the value attached to a particular rank is can be doubled can be halved ok. So, remember earlier we discussed that these; these were quite important when we studied utility function as cardinal in nature, cardinal utility function, but now we have figured out that utility we do not need cardinality of utility function; ordinality will work well. But when we are talking about ordinality we should not be moved by the value of M U 1 or M V 1 because they are cardinal in nature. So, be very vary of using M U 1 and M V 1marginal utility in your practical problems because you will reach to wrong place if you do not know fine. So, what is the solution? The solution we will see immediately again let us solve this problem using the technique that we have learned in the class ok. Earlier we solve it using just description and then table; now let solve it using the techniques that we have learned. And what did we learn? That we learned that M R S should be equal to the slope of the budget line or in other words M R S is nothing, but the slope of slope of in different curve fine. Now, let us calculate M R S in both the cases what does it equal to? It is equal to the exchange rate that you have in your mind at that particular bundle of course, in some of the cases your exchange rate that you are comfortable with in your mind would change as you have different bundles, but in this particular case what is happening? Exchange rate remains the same; it does not depend on how many units of good 1 or good 2 you have fine So, how much is M R S? If we use calculus to calculate M R S is equal to this is what it is equal to I have used earlier x for x 1 and y for x 2, but let us take to that this fine and how much is this? Minus for the first utility case for the first utility case from here what we can get M U 1 is 1 and M U 2 is 2 fine. And for the second case for the second case that is 2 x 1 plus four x 2; 2 and 4. So, what we get in the first case its half and if you take another utility function that is what we have is minus 2 by 4 and that is half. So, M R S; M R S is independent of the particular selection of the utility function; what we have learned let me just emphasise this point once again why we are getting something like this? So, what we learned earlier that if we have preference such that this then it you will be able to represent of course, it should satisfy some axioms that we have discussed; that this and then any monotonic transformation of this utility function would also work. This is what we have of course, this symbol says if and only if and only if. So, both ways fine for all x 1 and x 2 in the consumption set. So, in other word in other word what is V x 1; V x 1 of course, right now let us choose some other because it will lead to confusion we are using x 1 and x 2 for not different bundles for to denote the amount of a particular good in the bundle. So, rather than using x 1 and x 2; we can take it here P and Q we have R Q; let us take Q and R sorry because P again is what? Price is it clear? This is for all Q and R in x So, now when we take V of Q of course, V is monotonic transformation of U. So, what how can we write it? This is nothing, but g of U of Q and where g dash is greater than 0 by our definition; we have discussed it in the class fine. So, now, let us calculate M R S using this particular function and what is this equal to minus d V with respect to x 1 because remember we are talking about two good world Q has two goods x 1 and x 2 divided by partial derivative of V with respect to x 2 fine. And when we use this; what we will get? Minus g dash d U partial derivative of U with respect to x 1 minus again here g dash partial derivative of U with respect to x 2. So, this will get cancelled and we are back to the M R S; which we calculate we calculated with the first utility function representing the preference of this particular person. So, M R S is independent of monotonic transformation of utility function. So, it does not depend on the particular valuation; it is x2 yes fine it is clear?
Microeconomics	Lecture76_Axioms_Assumptions_Continued.txt	Now, we also talked about just we will have little recap here, we also talked about axioms. Assumption you can say axiom assuptions, or you can say also properties that is this technology that we talking about satisfies. And I am going to talk about only few of them there are modes. So, one we said free disposal, what does it mean that throwing away inputs throwing away inputs is cost less, you can dispose of inputs without spending any resources fine, or in other word if certain amount of output can be produced by given amount of inputs given amount of you can say combination of inputs, then the same combination of input puts can also be used to produce less amount of output. In other word if I say that you know we talk about production function when we have only 1 input and only 1 output and we say that. For example let us say that we need only milk to produce curd. So, if 1 kg of milk can produce can be used to produce half kg of curd then of course, 1 kg of milk can be used to produce only 250 grams of curd. So, here what we are saying basically what we are talking about the free disposal that some of the input can be thrown out costlessly again think about it, why we are talking about it because we are talking about all the feasible combination of inputs and outputs, that is way I am describing it in particular fashion. So, if it is feasible to produce half kg of curd from 1 kg of milk, then it is feasible to produce 250 grams of curd from 1 kg of milk. So, the key word is feasibility technology represents the feasibilities that the combination of inputs and outputs, that can be achieved in this world even the current level of technology fine so that is free disposal. The second is no free lunch. And this is quite famous term that we use in economics again and again at no free lunch and what does it mean here, but at least 1 input is required to produce some output, or more than you know more than 1 kind of output. So, at least 1 input has to be there, you cannot produce something out of thin air, you cannot consume something like, one example would be in the harry potter world, if we have watched harry potter movies, then harry potter cannot get nice freez, you know just from the thin air and, if not harry potter if you have read Chandrakantha book in hind there, also you know people would create something out of nothing that is not possible in the real world. So, that is what we are talking about no free lunch. Third is non reversibility, what it means is that a production process cannot be reversed. So, if you obtain half kg of curd from 1 kg of milk, you cannot obtain 1 kg of milk from half kg of curd, in this example if quite clear, but you can say that let us say if 1 kg of steel is use to create 1 kg of steel nail, then we can melt it and we can get 1 kg of steel, but the point here is that to get 1 kg of nail from 1 kg of steel, you have used certain amount of labor, certain amount of energy, you may get the steel back, but you would not get that energy consumed in the process energy spent in the process and labor hours spent in the process back. So, in that sense all the production and processes are irreversible. And if you are familiar with the thermodynamics principle, if we have reversibility in the production process, then it would violate the laws of thermodynamics. Basically it is related to entropy, if you are not familiar with this term forget about it, but you should just remember that a production process cannot be reversed fine ok. Next is convexity ok, but before we talk about convexity we are going to talk about additivity that we talked about earlier and divisibility fine what is additivity. Let us say that for example, 1 kg nail that we are talking about, it needs labor and cap labor and snail only two things just keep it simple let us say that there are no other things required. So, let us say to get 1 kg of nail we need 1 kg of probably this is not very good example, let me change it. Let us say to write a software code 1 software code of course, we will have to define what do we mean by 1 software code, but let us say that there is such definition it requires either 2 man hour, and this is also not a good example, let me think of something else. To produce 1 kg of rice ok, you need either let us say 100 grams of fertilizer let us say I am writing 100 grams of fertilizer as 1 and, 50 liters of water that I am writing as 2 let us say I can say 100 grams of fertilizer is 1 and 25 liter of water is 1 fine, same 1 kg of rice can be produced by 200 grams of a using 200 grams of fertilizer. So, 2 and 25 liters of water of course, we need land, but that is fixed those are fixed, we are not talking about it only these 2 are variables. So Student: Should not, has be 2 like 1 kg of rice gives 1 and 2. No not give this is 1 kg of price is output. Student: And the single digit in there So, what I am saying here let me write it in this term this is 100 grams and this is 50 liter and, here it is 200 grams and 25 liter. So, that is what I am using 1 comma 2 and 2 comma 1, fine what additivity says that if these 2 are true, then 1 kg of rice can be produced using any linear combination of these two. Let us say let me write we have already learned how to write the linear combination of 2 points in this is space where t is of course, between 0 and 1 why we are saying it let us take 1 approach here. Now of course, we have figured out that 1 kg of rice can be used can be produced from 1 comma 2 and 1 kg of rice can be produced 2 comma and 1. And we need to produce let us Say 100 kgs of rice, what can we do 1 way to do it is that we repeat this process 100 times. So, 100 multiplied by 1 comma 2 and another way is to repeat the second process 100 times. Fine we will get the 100 kgs of rice, also what we can do that we do the 50 times this process the first process and 50 times the second process fine, or any combination between 0 to 100 that we can take, we can say t times we take first process and 100 minus t times we take the second process, we will get the 100 kg own way. So, on average we are saying this is what it is not always true, but I am saying on average, what we can do is that we can produce 1 kg of rice here, using t by 100 and 1 minus t by 100, 2 comma 1. And we can define this t as we can say that instead of using t here let us use t dash, this is t dash this is t dash. So, now I can define the t dash by 100 is equal to t. So, 1 kg of rice can be produced by t 1 comma 2 plus 1 minus t 2 comma 1, and this is what additivity is if this is possible, then we say that technology exhibits additivity. Another related, but it may sound different let us say, if it is technologically feasible to produce let us say y amount of output. And it is also technologically possible to produce y 1 amount of output, then y plus y dash amount of output is technologically feasible, I have made small mistake, mistake that explain convexity rather than additivity. This is example of convexity; let us talk about additivity first. What is additivity? Let us say that a production plan is let us talk in sense of first production set, if there is a production plan y what does this production plan y means, that it gives certain combination of input and output that is feasible, not just this y does not represent just amount of output. If you want to distinguish you can say y hat to represent that, this is a raptor or this is a combination of input and output and, there is another production plan y dash ok. So, y bar and y bar dash both are feasible, then what additivity says that y bar plus y bar hat is also feasible, is it clear. How we can explain it if it is possible to produce it is possible to have this production plan. Let us say let us take an example y bar is nothing, but 1 2 minus 1 minus 2 comma 1 what it means, that we are using 1 unit of input 1 and 2 units of input 2 and we are getting 1 unit of output. Now y bar hat is let say 2 comma 1, then what it means here is that here now we are using 2 units of input 1 one unit of input 2 and it leads to it gives us 1 unit of output. Then this is also technologically possible, that we use 3 units of both the inputs 1 and 2 and we get then 2 units of output. And what is the logic why we are saying it? Because if it is possible to produce 1 unit of output using, this particular combination of input and then again it is feasible to produce 1 unit of output by using this new combination, then of course we do these process once 1 by 1 and we will get 2 units of output. And in the process we will use 3 units of both the inputs. So, again we are talking about feasibility, we are again talking about feasibility fine, in other word now let us come to divisibility. What is divisibility? If y bar is feasible production plan if y bar is a feasible production plan, it means let us say this take one example, minus 1 minus 2 and 1 if this is a feasible production plan, then lambda y bar is also a feasible production plan. Let means what we can do where lambda is of course, between 0 and 1 what it means is that we can use minus let us say lambda is equal to half, then we can use minus half we can use half unit of input 1, 1 unit of input 2 and then we get half unit of output. So, what we are saying is that a production process can be miniaturized ok, a production process can be synched fine at this level it sounds very you know it may not be possible sometime, but if we are talking about really large scale, then what we are saying that if we decrease all the inputs in the same proportion, then output will also decrease in the same proportion and this is possible this is feasible fine. It is clear ok. The easier is easier way easier although they these two are not same, but the similar 1 implies the other, but not the other way around, what we have is we can say it input combination x of course, if we are talking about input combination then we do not need to put negative sign its automatically we can say, all are negative because all are input. If this is the input combination and it is feasible to combine them, in this way and get some output, then also it is also possible to combine lambda x 1 to lambda x 2 of course, here we are not talking about the amount of output, but here we are not concerned about the amount of output, what we are concerned about it whether it is feasible to combine the inputs in such a manner or not ok. When it is possible then we say that technology exhibits divisibility, or production set or technology is divisibility in each other fine. Now we combine these 2 both, if both of these properties are satisfied, then we say the technology is convex and what it means. So, let us look at it. . What it means? We have taken example where 1 unit of output can be produced using 1 unit of input 1 and 2 unit of input 2, we have used different symbols there what we have used minus 1 minus 2 comma 1, saying that these 2 are for inputs and this for output. And similarly what we have discussed that this is also feasible. Then convexity says that there let us say this is y bar and this is y bar dash, then or in other word if it is possible then y bar is an element in the production set, I am just rewriting it and production set we denoted by capital y fine sorry, this will be these both are feasible production plan that is what I am saying, that y bar and y bar dash are feasible production plan. So, then what it means further if it exhibits convexity then t y bar and 1 minus t y bar dash is also feasible and, how we can do it, what is the logic, we can say let us say we take that 1 unit of output can be produced choosing 1 unit of input 1 and 2 units of input 2. And next the production process says that seem 1 unit of output can be produced ba using 2 units of input 1 and 1 unit of input 2. Now let us say we just do not want to produce 1 unit we want to produce 100 units. So, 100 units we can produce by replicating this process 100 times. So, what we can do by using 100 units of input 1 and, 200 units of input 2 and we will get 1 unit of output 100 units of output. Similarly, we can repeat this process 100 times and, in that case we will use 200 units of input 1 and 100 units of input 2 and what we will get both will give us 100 units of output. The other way we can do it that we can combine it let us say 50 times process 1 and 50 times process 2, and what we will have that we will get 50 units of output using 50 units of input 1 and 100 units of input 2. And again 50 times we will use the second process and here, we will use the 100 units of input 1 and 50 units of input 2, if we add these 2 up we will get 100 units of output ok. And what we are using basically 150 units of both the input. So, instead of doing it for each number what we can do that we can take this process let us say t not time and this process 100 minus t not times. What we will get? We will get 100 units of output and what is happening there, we can say 100 units of output we can obtain using t not 1 comma 2 plus 100 minus t not 2 comma 1 and this is where additivity kicks in, we are able to add these to up. Now we will use the divisibility property, we will say that on average if we are using you know 100 times like this on average, we want to produce 1 kg and divisibility is allowed, then what will happened if we divide it by 100, what we get t not by 100, 1 comma 2 and 1 minus t not by 100 2 comma 1. And this will give us 1 kg or 1 unit of output. And if we define this t not by 100 using say that t not by 100 rather than using 100, we say it is t. So, basically t 1 comma 2 1 minus t 2 comma 1 will give us again 1 unit of output. So, what we are saying basically that ok, we start with y bar and y bar dash then if these 2 are feasible, then t y bar plus t y bar dash is also feasible here, y is taking care of not only inputs but also output. The combination is all given here and this exhibits convexity.
Microeconomics	Lecture73_Technology_or_Production_Function.txt	Now let us focus on the production or technology, how can we represent technology, because the way we are defining it, it is more ephemeral than real that it is the black box, that it is transforming, but what is it, how can we describe it and one, the simplest way to describe is to use something called production function. We can use something called production function. What is a production function? a function that gives maximum possible output by the given set of inputs. Choose different definition, I got. One he is talking about the maximum output that can be produced using given inputs, Inputs And what you are saying is that the production function is a relation between. Inputs. Inputs and output what you are saying. He is saying the same thing and something more. So, you are not wrong production function is of course, the relation between Inputs. Input and inputs and output, but more. So, it is, it gives the maximum amount of output that can be produced given the Inputs. Given the amount of inputs. Fine ok. So, and it is represented as let us say typically, we say we reserved y to represent. Output. Output. Of course, here I am assuming that this production process, whenever I talk about production function I assume that we have only one output that may not be true sometime ok. The production process may give more than one output So, it should be clear to you. This is not the most general and the perfect way to describe the technology, but nevertheless this is very handy. Particularly when we have only one output and here we have x 1 x 2 and so on, and what it means x 1 is the amount of first input. It means we should have list of all the inputs, not just the list, but an ordered list, saying that number 1 input is this particular kind, number 2 input is of this particular time an so on and then we can say that we can have one example, that function of 1 comma that 1 leads to, let us say 1 unit of output. So, we can say that it leads to 1. If I use the mathematical notation, what it means that all inputs are being used here in 1 unit and it leads to 1 unit of output. Fine ok. I am not saying this is always true, this is just an example. I go back a little bit and just compare it. What we are learning in context of producer and compared it with what we had learned in context of consumer So, if you look at the consumption set. Typically we do not have anything to, anything like you know we have production set, but its not equivalent to consumption set ok. And of course, I am moving to the second way to describe the production process So, what the second thing we had learned. The second building block that we had learnt was feasible set or affordable set. Remember in the set of consumer theory, here we have producer theory. And equivalent to this, here we have something that we call production set. Remember what did the feasible set gave, what did the feasible set give in the context of consumer theory that all the consumption bundle; that is Affordable. Affordable, that is feasible. So, in the similar sense, we are talking about all the combination of inputs and outputs They can be. Those are feasible, those can be produced. Fine, but now we are bringing, we, if we use the set theory, we have to develop a way to represent inputs and outputs or we have to clearly list them in the different sets, that this is the set of input and this is another is the set of output, but one greater ways to represent all the inputs and outputs in the same Graph. In the same. Not just in the same graph, in the same set And how can we achieve that. Remember input is means that if we in the production process input will be consumed, input will be used. So, input will decrease. So, if you put minus sign, let us say if we take a set 1 minus 1 comma 3 by, just by looking at the minus sign, we can say in the production process input is decreasing by 1 unit. It means this production process is using 1 unit of this input and plus means, what does it mean ? That amount of this would, is going up how can it go up, because it has, it is being produced Produced. In this production process. So, the plus sign will give the output. Output. The output for example, let us let us take, you know I just want you to understand the relation between these two, the production function and the production set. Now, I am talking about the production set. So, let us say this can be a production function. What does it say, what does it mean that; of course, if we look at it and x is a scalar not a vector, it means only 1 input. So, what we mean is, 1 input and 1. 1 Output. Output how can we represent it. Minus. No, I am just talking about production function. The production function can be represented here as. Sir I am graph this. This like this. Yes. This is fine and all the points here. Let us say we take here x is equal to 1, y is going to be equal to 1. No. So, 1 comma 1 what does it mean that 1 unit of input leads to 1 unit of? Output. Output and since it is a production process, production function, what it means is that 1 unit 1 unit of input cannot produce more than 1 unit of? Output. Output this is the maximum you can produce using 1 unit of input. Now, let us look at, we can similarly say here itself here, here what we can say the production set we are talking about, all the feasible combination of inputs and outputs. So, what we can say before we bring the minus and positive sign what we can say that, if we can produce 1 unit of output using 1 unit of input, it means we can also produce half unit of output using 1 unit of input. So, whatever we have here, again we will go into detail, we will talk about it little more. Although I did not name the property that we will do later on, but here that is what it means that everything here is feasible, in graph it looks perfect. So, what I am saying if 1 comma 1 is on production function ok, then 1 comma half or 1 comma 1 by 3 is in the Production. Production. Function. Set. Set. Ok, but if you look at the graph there is no confusion. Why is here its amount of output and here its amount of input. But when you get here 1 comma 1 then its confusing, whether 1 is this or here 1 comma half, whether 1 is input or half is input ok. So, what we can do that we can put negative sign for the input used in the production process and put the positive sign or leave. If we do not have to put the positive, positive sign for the output, but when we represent this back in the graph the graph cannot look like this. Because, now we cannot plot 1 comma 1, because this is not feasible ok. So, what we have to do. We have to account for the fact that some of these factors, some of these are inputs and some of these are outputs and of course, I am assuming that you may have more than 1 inputs and you may have more than 1 outputs. So, how can we represent in two dimensional graph when we have just 1 input and 1 output, it cannot be like this, it cannot be. Because what it means is, that something is being produced without using any inputs. So, of course, one factor has to be negative. So, if this is output we will have it on the positive side and here it is input, it has to be on the negative side. So, the same production function can be represented like this and in this case this is the production set and this is the convention. When we describe the production set we take care of the signs, whether its input or output, but when we talk about production function. Of course, in that case we are talking about only one of, only one output production process So, then we do not have to worry about. Whenever we talk about production function we will put it like this and there we are not talking about points inside here We are only talking about, because these are not the maximum amount of output that you can produce using some amount of input (Refer Time: 11:27). So, that those bundles are combinations, are represented by this curve. Fine, is it clear Do you understand. So, production set although more general, because now notice what if you have a production process, where there are three inputs and 2 outputs. So, what you can do, you can have a list here that on first position you have input one, on the second position you have input 2. Third position you have input 3, fourth position you have output 1 and fifth position you have output 2 and you can write it like this. This is very general. It takes care of more than one output and also what if, because sometime it happens that you know that rather than, let us say for example, a company has bought, you know our a farmer has bought seed or better example would be a company a, a company has bought some electricity in the future. Its possible these days that you can buy some things to be used in the future and then that company figures out that it is better idea to sell that electricity in the market rather than using itself. So if you think about, if you have this kind of representation, these scenario can be taken care of automatically minus and positive its possible, like for example, its possible in this. Here you have x 1 minus x 2 minus x 3 x 4 and minus x 5. So, what does it mean, here that good 2 good 3 and good 5 these goods are being used as Inputs. Inputs and good 1 and good 4 are. Output. Output of this production process. Is it clear? Yes sir. So, production set the, if we use production set to describe all the feasible combination that is more general than the production function. Is it clear?
Microeconomics	Lecture06_Branches_of_Economics.txt	Now, let us look at economics. We have looked at the definition. Now let us look at what do we study in economics, we all know that we study market in economics. Why do we study market? The reason that we study market is that; this is probably one of the most prevalent form of, most prevalent mechanism to allocate resources. What is to be studied in economics? We study political process. You may, some of you may be wondering. Why do we study political process in economics? Shouldn’t it be a topic in political science? It is, but it is also a topic in economics. The reason is, we study political process, because political process affect allocation mechanism. It affects through taxation, through aggregation of preferences. These terms, if it is not clear to you, do not worry about it as we progress in this course you would learn these terms. So, but the thing is the political process affects the allocation mechanism namely here market. That is why we study political process in economics. We study, let us say crime in something called law and economics. Why do we study it? Should not it be a topic of law? It is a topic in law. But also, we study a particular aspect of crime here in economics. For example, let us say theft. It is illegal mean of allocating resources. But nevertheless, it is mean of allocating resources. That is why we study it in law and economics. Similarly, there are so many branches I can go on saying, let us take one or two more, and then as you progress you would learn about different topics in economics. What we have labour economics. Labour as we have seen is one of the most important resources. So, that is why we study in economics. We have urban economics. Here we talk about city, how the origin of urban life, how does urban economy work. So, why do we study here? Urban economics in economics, because again urban agglomeration are nothing but it helps allocation of resources. That is why we study urban economics in economics. So now let us rather than going one by one through different fields of economics, let us look at the broad fields of economics. What are these broad fields? We can say that it has three main branches. The first is microeconomics; that is, what we are supposed to study in this course. Then we have macroeconomics, and third is statistics or let me use the specific name that we economists use. It is not exactly statistics, but what we have here is econometrics. Now let us pay attention to this world micro. It is coming from Greek word micros; which means, small and here it is macro. Macros, the word here, the Greek word here is macros and it means large, and here metrics, it relates to measurement. So, here in microeconomics, we study economic behavior of individuals. So, economic behavior of; in macro economics we study economy as a whole, an entire economy, we study the economic question pertaining to entire economy. So, let me write here, entire economy. So, let me just first concentrate on micro economics as well as on macro economics. So, here the kind of question that we talk about when two individuals are interacting or when a group of individuals are interacting. Our decision units are always one individual. We always talk about one, how an individual has reached to this particular decision. And if we are handling questions in this particular fashion, then we are talking about a topic in microeconomics. But when we are aggregating the whole economy, we are not talking about individual interaction, we are talking about how the whole economy is performing. Then we are talking about a topic in macroeconomics. For example, unemployment is about it is not a micro, it is not about one individual, it is about the whole economy, how the whole economy is performing. So, unemployment is of course studied in macroeconomics. Similarly, if you look at inflation, by the way what is inflation? Inflation, higher inflation means, higher price rise; it is a concept that relates to price, overall level of price rise in economy. So, when we are talking about inflation, we study it in macroeconomics. When we are talking about the national income, then we are talking about macroeconomics. How about here? When two firms are interacting, or when consumer is, when a consumer is buying some product, then we consider those questions in microeconomics. Let us now talk about econometrics. I already told you, that here you can clearly say this is coming from economics, and this is coming from metrics. It is here, it means measurement, measurement of economic variable. That is the broad name, but what do we mean by econometrics? Econometrics is basically a quantitative set of tools to analyze the economic problems on the basis of joint development of economic theory, and facts observed in real world. So, when we are talking about econometrics, we are talking about a quantitative sets of, a quantitative set of tools. To analyze an economic problem and how do we analyze? We bring economic theory, as well as the data that we collect from the real world together, using the data, using some statistics tool, we form some statistic, we bring in statistics tools economic theory together and that is how we get econometric principle. We collect data, we bring these things together, using the data we verify our econometric model. And that is why we have econometrics is very, very important branch of economics. It helps us verify the theory developed in micro and macroeconomics. So, although we are not going to talk about econometrics more in this course, but the bottom line is that econometrics is used to verify, to test micro economic as well as macroeconomic theories. So, one can say here, let us look at it one other way to describe economics is; it has two, we can say one is theory, and second is empirical tool. And even in theory we have two branches; Microeconomics, and here we have macroeconomics. And similarly, we can have here 2 branches, microeconomics and macro in short. So, we can say these two are related. Microeconomics in theory and microeconomics in empirical tool, they are related. Here we are developing some theory, here we are developing some empirical tool to test theory developed here. Similarly, the same thing is true for macroeconomics. So, here this part belongs to econometrics.
Microeconomics	Lecture49_Behavioural_Assumption_More_is_Better.txt	Right now we have enough structure to talk about preference of a person and then by combining that we have already learned that the budget set by combining these two a person can make a choice. But sometime it is a good idea because we observed certain regularity in the world in human’s, in human’s preferences. So, we are going to learn about them also and how it would change the problem. I am not saying if these are less important in a way, but it helps us immensely mathematically that is why we are going to learn some more if you want to call them you should call them psychological assumption about human behavior. And the first of those is non-satiation. What does it mean? Non-satiation, it simply means simple translation would be never satisfied. And it has two forms there are two different forms of non-satiation that we are going to learn. I am not saying that these are true all the time, but these are true most of the time and when these are true our problem becomes much simpler to solve. So, the first form is more is better. So, whatever you have let us say in two good world, in two good world you have a bundle here let us say it is 2 comma 2, any bundle which has at least more of one of these two goods would be preferred over this bundle that is what it says that more is better. So, in other word we can say, we can take like this and whatever we have here would be preferred over 2 comma 2 or in other word whatever we have here we get is strictly better than 2 comma 2, and then here whatever you take here clearly you would prefer that whichever bundle you take from this zone you will prefer 2 comma 2 over that particular bundle because 2 comma 2 has at least more of one of these two items. So, that is what we figure out. And that is more is better in economics Jorgen it is called monotonicity. Mathematically speaking x is preferred to y, if x is greater than or equal to y with at least one x i is greater than y i, fine, this is monotonicity; it is clear. Can you think of any other version of being never satisfied? Have you ever heard term called envy? yes. Envy, whatever you have you are not happy about it, you want something different, not necessarily something more what you want what your neighbor has, in one way to put it. So, that is called local non-satiation. And what does it means? Dissatisfaction of course, this is the technical term local non-satiation as the technical term here is monotonicity, what it means is that dissatisfaction with the current bundle in your consideration. Mathematically speaking its bit technical in a way that you take a bundle here x, you take a bundle here x and take a small region that is close to x of course, if there can be more stringent mathematical definition, but we are not getting into it. So, what we have, we are talking about different bundles which are very similar to x. So, when no matter how small zone how small region we always find a bundle in that zone that you prefer over x. Let us say this zone is called neighborhood of x. So, there exist a y in neighborhood of x and y is of course, not x, but prefer y over x. Whatever you have, you do not like, you want something different basically you want something different, do you understand, you did not understand. No sir. So for example, let me give you more one more example here. Let us take here good 1 and here we have good 2; good 1 can be food, good 2 can be cloth and here we are taking 2 comma 1. If we take a small zone small region near 2 comma 1, what kind of good we get? Either we will get 2 plus epsilon 1 plus epsilon where epsilon is some small number or we will get 2 minus epsilon 1 plus epsilon or we will get 2 minus epsilon 1 minus epsilon and of course, epsilon can have different value because we are taking a zone. So, what we are saying then that one of these elements would be preferred over 2 comma 1 by u because that bundle is different. So, here this is simple, that you are unhappy with what you have you must have heard from your parents and teacher that feel satisfied you know whatever you have you should be content about that thing, but that is what I am saying here in economics that this is human nature not to be content about what you have, you want something difference. And this property is trying to capture that particular nature of, that particular angle of human behavior. That you are not happy about what you have, you would always prefer something different, little bit different. No, matter how small the change, but in that zone also you would prefer something else over the original bundle. Now, the funny part is that when you get what you prefer and you take small zone around the new bundle again you will have something. So, basically what we are talking about is that you are not happy about what you have, you are trying to search for another bundle and no matter how you know, no matter how small zone you consider you will always have another bundle in your mind that you would say that you prefer over the original bundle. I am not saying that all the bundles one bundle, at least there will be one bundle in that zone that you would prefer over the original bundle. So, the first one says more is better, second one says that you are not happy about what you have. Which one do you think is more stringent or let me put in another way that do you think non-satiation would imply monotonicity or monotonicity will non-satiation or they are quite different, they are very different. Think about it. Are they very different or one implies the other or they are the same that if they are the same it means that one implies the other and the second one implies the first one, which one is the case now. Same. They are the same. Let me ask you this. Go with the example that we have in the class. This is the indifference curve, its moving in this direction, it means the utility is increasing in this direction here we have good 1, here we have good 2. Does it satisfy monotonicity or local non-satiation? Both. Or both are satisfied. Think about it, this is very simple. Of course, monotonicity is not satisfied what does it say less is better. And monotonicity is just reverse that more is better. So, of course, monotonicity is not satisfied. How about local nonsatiation? It is satisfied. It is satisfied at all point in except at 0 comma 0, except at 0 comma 0. Take any bundle here and take a small neighborhood and if you move in this direction of course, you will find a bundle that you prefer more over the original bundle. So, what we are saying we are not talking about direction we are talking about that any small neighborhood that we take and we are able to find a bundle that is preferred over original bundle and if that happens local non-satiation is satisfied. But come to 0 now, what is happening at 0 of course, we will get the whole circle because this part is not in the consumption zone consumption set. So, we will consider only small sector. And what is happening in that sector? We cannot find any bundle which is preferred over 0 comma 0. So, local non-satiation is not satisfied at 0 comma 0, but it is satisfied at everywhere else fine. So, of course, monotonicity is not satisfied at any point. Local non-satiation is satisfied at all points except at 0 comma 0, is it clear. So, which is one is more strict requirement which would be violated. Monotonicity. Monotonicity. Yes sir. Monotonicity will always imply local. If monotonicity is satisfied, monotonicity implies local non-satiation, but this does not imply monotonicity because local non-satiation does not restrict the direction, but you need to move away from the original bundle, but monotonicity is clearly about a direction that you will have to move in the in two-dimensional world I can say that you will have to move in the north to east direction, anywhere in the north east direction, its northeast or northwest quite poor with the direction. Northeast that side. Northeast. So, you have to move in the northeast direction to find the bundle that is preferred over original bundle, fine, it is clear. So, this concept is clear. Now let us talk about it, I already told you that this is, do you think non-satiation forget about local or just I am saying in general. Do you think non-satiation, we always do we always exhibit non-satiation property, do we always exhibit I am talking about real-world not theoretical construct I am talking about real human. No sir, no sir. Can you give me an example when it is violated? Weight. Ah? Weight. Weight. Body weight. But body weight is not good we are talking about goods. Goods. Which gives, no, goods which give us pleasure if we consume. Sir food, food. Food. After a certain level we do not like it. Ha. So, what we are saying that after certain level of food. Nothing comes Our happy if we eat more our level of happiness will decrease. So, there is a point which gives us maximum there is a finite point that gives us maximum satisfaction. So, non-satiation is not satisfied in that case. But if I say let us say you are allowed to dispose a food freely disposing throwing food does not have any cost. Remember right now we are talking about consumption set. So, we are not considering any cost one way to say that we are talking about all these bundles at 0 cost. So, does not matter. So, if we go with the same theoretic construct then if we are allowed to you let say disposal of food is costless, then this assumption is satisfied, we can get food and we can throw it off probably. Later on you will see that the budget constraint would kick in and food would be costly. So, if you get maximum satisfaction at such level, then you do not want to consume more. So, it is not that bigger problem, fine. So, it is clear. But still it is not always that we should keep in mind that it is not always satisfied. So, when we are using the utility function which uses or indifference curve uses concepts from non -satiation then we need to be very we need to be careful about it, fine. We have talked about satiation non-satiation. So, let us talk about satiation also. What is satiation? State of being satisfied. And we can consider a bundle let us say if our preference if my preference exhibit this satiation property what it means, that there exist a bundle that there exist a bundle that gives me maximum possible maximum possible happiness, satisfaction, utility, or satisfaction and that bundle a point representing that bundle is called bliss point. That is a name we use, that you are in bliss, you know nothing can be better than this or nirvana point also you can call, is it clear. And when you exhibit satiation what typically happens? Nearer you are to, the nearer you are to the bliss point happier you would be. So, if you have if you are comparing two bundles the bundle that would be closer to the bliss point you would prefer that particular bundle. And just one more thing because you said just 2 3 minutes, one more thing I should tell you going back. Now, what we have here going back to this, this example here we had K 1, K 2, K 3 and these are the value associated with these indifference curve and what we have is K 3 is greater than K 2, K 2 is greater than or K 3 is in this particular K sorry K 3 is less than K 2 and K 2 is less than K 1 fine. And let us say the value that we have taken K 1 is equal to 1, K 2 is equal to 2, and K 3 is equal to 5. What we can do simply rather than using x 1 plus x 2 is equal to K, what we can do x 1 plus x 2 plus 5 is equal to K nothing will change you will get the same indifference map. So, that is, it is the ordinal property, fine, done.
Microeconomics	Lecture95_Cost_Minimization_CobbDouglas_Production_Function.txt	So, here, what we are doing? We are using some logic to solve these problems. But now if we take a Cobb-Douglas function and what we have? Cobb-Douglas production technology is given as K to the power L a and L to the power b. How can we solve this? Now what we have is minimize cost that is again r K plus w L and what we have to do is minimize with respect to K and L fine and what we have here is such that I will write here K to the power a L to the power b is equal to Q fine. How can we solve it? Sir here we have to use tendency relationship. Two three different ways we can solve it. One notice that the Cobb-Douglas, in the case of Cobb-Douglas the isoquant looks like this ok. And of course, we have so we have to find an isocost, such that it is parallel to this isoquant and how can we find the how can we find the find it that the isocost line is tangent to this isoquant, how can we give the tangent to this isoquant? What is the equation of a tangent to this isoquant? Sir slope equals to. MRTS equals to. MRTS basically MRTS is the slope of this isoquant. So, first what we can do? This is a pure mathematical way, again we will come back and we will try to solve it a little bit differently. What is the MRTS? MRTS is. D K. D dK by dL. This is MRTS ok and what is FL basically marginal product of labour divided by marginal product of capital; these are the same thing ok. So, what is the marginal product of labour in this case? b K to the power a. L to power b minus 1. B minus 1. And what is marginal product of capital a? K power a minus 1 L power b. And what we get? K by L. k K by this should be same as. Minus. The slope of. Iso-cost. Slope of iso-cost line and what is the slope of iso-cost line? Minus w by L. Minus w by L. R. Or minus w by r sorry thank you. So, what we get basically is that one condition is that minus b a multiplied by K by L should be equal to minus w by r fine and what we get basically is if you look at here, bk r should be equal to a L w and this is an equation in 2 unknowns ok. What are the unknowns? b is given in the equation. A. A is also given in the equation. K and L. This is r and w are market determined what does this firm need to decide? K and L. K and L. So, these two are the variable for this problem fine. Second equation, how do we get the second equation? We would calculate the mode the mode of output. Second, equation is from here; Q is given, Q naught is given and what we have is K a L. L w. So, what we can do from here, I am not going to solve it completely just giving you a hint. What we can do? We can figure out L in terms of. W. K and K and Q naught. So, what we get? Q naught by K a to the power 1 by. 1 by b This is power fine. So, now, if we put it back b K r a, L is nothing but Q naught to the power 1 by b, K to the power a by b w. In this we have only 1 unknown that is K and we can solve it. What did we use? We use the tangency criteria. So, somewhat we have used mathematical and a little bit of graphical understanding of the problem. Another pure mathematical way is just to look at the problem again minimum r K plus w L, we have to minimize with respect to K and L and what we have here is K to the power a such that K to the power a and L to the power b is equal to Q naught. We can get rid of one of these two variables right here fine. What we can get? Let us say let us get rid of K in this case. So, K is Q naught by L to the power b whole to the power 1 by a fine. So, what we are saying basically here that K and L are not independent of each other, they vary in one particular way and this equation gives that variation. So, what we are saying basically we are making it as a function that K is an implicit function of L basically and we plug it back. So, now instead of minimizing with respect to K and L what we have is we minimize only with respect to L and r K we can get from here and this is one equation, where we have to which we have to minimize with respect to L and we minimize it and we get the what we can get we can get. L. L as a function of. Q naught. L as a function of. Q. R w. R w and Q naught. And Q naught ok or let us write here just Q and K is also a function of r w and Q. Is it clear? So, what does this give let us focus on this equation only now, what does this give? Minimum amount of labour required to. Not minimum amount of labour, the amount of labour required to minimize the cost of production of Q; minimize the production of output, when the market price of labour is w and market price of capital is r not the minimum this is the amount of labour you require. So, in other words what is L? L is the amount of labour that this firm demands from the market. So, can I say this is kind of a factor demand? Fine and we also put a word here conditional factor demand not just factor demand conditional factor demand. What is it conditioned on that it has you know L is not just a function of r and w, it is also a function of Q; the amount of output required, and that is why we are putting a word there conditional. This is conditional factor demand. If you want to correlate it with a concept that we have learned during consumer theory this is very much like Hicksian demand. What did we do in the Hicksian demand? We kept the indifference curve fixed, we kept the utility level fixed, and we said what would happen to our demand of a particular consumption good when the market price of this good or the other good change? So, that is what we are talking about. Here, what we have done? We have kept the isoquant fixed. We have kept the isoquant fixed, we are not changing the isoquant and what we are talking about? So, what is happening basically let us see; graphically, let us see what is happening here is this is isoquant let us say depending on a particular value of r and w our isocost line is this. If value let us say what happens if the slope is minus w by r. If w goes up what will happen to the slope? If w goes up. It will more steeper. It will become steeper; it will become steeper. So, how would it look? Probably of course not exactly, it will look like this and we are moving here. That is why remember it does not matter, whether w has changed, w has increased, or r has decreased. We will move from the factor demand would move from here to here and see what is happening basically, if w has gone up labour is becoming labour has become costlier. So what would this firm do? It will start firing labour. We have to use the capital instead of. It will produce the in the production it will use more of the cheaper input Yes sir. And which one is the Cheaper. Cheaper in comparison to other capital. Capital. So, the amount of capital would increase to produce the same amount of output. Fine, is it clear, ok. So, that is what happening here.
Microeconomics	Lecture16_Few_Examples.txt	Now, let us look at the facts that we discussed, some of the facts that we discussed right in the beginning of this chapter. And one of those facts we had was that how the price of mango comes down in the season while the hotel room rents in the season go up. Now, can you think of the reason? Now, we have done demand, we have done supply, and we have also studied market equilibrium, can you think of. Supply of mango in the season is more. Supply. Of mango in the seasons more. So let me write it here. So, let us say this is the probably line and supply in the season goes up this is supply and this is supply in the summer or in the season. Let’s denote it, it goes up. While in off season we have to store it in the refrigerator and storage because of these days lesser amount of mangoes available in the winter, so its price is higher than. But. Not price, price we will get from the equilibrium, what you can track about that in the summer season when. The demand. No demand, demand is let us say the demand probably again you can bring demand and supply both into the explanation, but what I suggest that if you think it is not that we do not want to have mango in the winter season, sometimes we just miss mangoes in the winter season and in the other seasons. We would love to have mango. So, let us say it is not impacting our demand, it may because we have developed that habit of having mangoes during the summer season, but again it is an abstraction. So, we can say the demand is more or less the same over the year. But in the summer month, supply is not more as you said. So, what is happening to the supply, it is shifting outward. So, let us say what is happening to, as a result this price let us denote it by P 1 and Q 1, Q 1 is the amount of quantity, it is the quantity of mango bought and sold in other season at price P 1, and this is Q 2 and P 2. P 2 is the price of the mango in the summer and Q 2 is the amount of mango bought and sold in the summer. Of course, it is not very precise, you may say that Q 2 is much much higher than Q 1, but again it depends how we draw the graph what we can get is that qualitatively more mangoes will be sold in the summer month at lower price. Quantitatively speaking we need the exact depiction of demand and supply curve. Now, let us look at the hotels what happens. Let us say let us take Shimla, example of Shimla in summer month, here demand increases. So, what we have demand is like this. And supply I can say again, here if we assume I was taking about more precise information supply, we can say that supply first increases as price increases of the hotel where the room rent increases in Shimla, but after some point of time supply stops increasing. So, I can say it is like this, after certain price it becomes the supply becomes fixed and in the summer month what is happen, what happens because of the heat of Delhi people would like to visit Shimla. So, demand for these rooms would go up manifold. So, it is going to be like this. So, see what is happening here. Earlier this was quantity Q 1, this is Q 2, P 1, P 2. So, when we say season what we mean is that quantity bought and sold goes up, that is what in season means that these two things are happening because of different reason. Mangoes are in season means supply is increasing, but rooms in Shimla if I say just for example’s sake, when we are talking about rooms in Shimla. Then we are talking about increased demand and increased demand increases the room rent in Shimla while increased supply decreases the price of one unit of mango all over the country do you understand. Another example let us take, let us take another example that we know that aluminum is obtained from bauxite through a process of smelting and smelting is very intensive in electricity, very-very intensive in electricity. So, now let us see that what happens if the price of electricity goes up, the price of electricity goes up. Price of aluminum price. That is very simple to see now we know the concept price of electricity goes up, but I am not just interested in looking at the market for aluminum, I am also interested in looking for the market of steel. Ok. And let me say just for the purpose of this example that producing is not that intensive in electricity. So, for our purpose we can assume that the change in price of electricity does not impact the Production Production of steel directly. How about indirect effect? Now, again I want to complicate this problem, just so that we understand that not only now let us look at it two thing is I want to say that there are two possibilities. The first possibility is that steel is a substitute, steel is a substitute of aluminum in consumption. What I mean to say that when the price of aluminum part goes up, people shift to steel parts and second also again I do not know that whether it is true or not just so that we understand the concept. Let me also say that steel is a substitute of aluminum in production. So, let’s start with this first. The price of electricity is going up and steel is a substitute of aluminum in consumption, what would happen? Let us forget about the second part right now, just look at the first part. What would happen to the market equilibrium price of the steel and quantity demanded, and supply of steel at the market equilibrium price after the price of electricity goes up, do you understand? Earlier we were talking about now it is very easy to see that price of electricity goes up, it means remember the one of the factors that affect the supply curve the cost of inputs. So, input cost is going up it means marginal cost of producing one more unit of aluminum is going up. So, it also means that willingness to supply is coming down. So, if I can do the aluminum market, what will happen to the supply; let us say it is for aluminum, what will happen? shift It will shift inward. Sir, supply curve shifts inward So, as a result. Price would increase. P star aluminum will go up and Q star aluminum will. Go down. Come down. What would be its impact if steel is a substitute of aluminum in consumption? Demand Now, let us look at the steel market. What will happen to the demand of steel? Demand curve shifts There will be higher demand of steel at the same price. Yes sir So, and as we already assumed right now that for the part of one, we are ignoring the second, supply curve will not change, supply curve of steel will not change fine. So, what is the result? P star steel also goes up but. Demand also goes up. Q star steel also climbs up unlike here also goes up unlike here, here they move in the opposite direction, here they move in the same direction. same direction. That is for the part one. Now, let us look at the, now let us concentrate on the second part ignore the first part that steel is a substitute of aluminum in the production, what happens what will be its impact? Let us say we are talking about steel market. This is price, this is quantity, if they are substitute in production, if steel and aluminum are substitute in the production and price of electricity has gone up. So, price of electricity has gone up, willingness to supply willingness to supply aluminum will come down. Down. But what will happen. Willingness to supply will raise go up. Willingness to supply steel will raise go up because steel and aluminum are. Substitute. Substitutes. So, it will go up something like. So, what is its impact? Price difference Sir, can we also think in this way that the technology that we have today for producing aluminum. Hm. is proving to be a little more expensive. So, means the deterioration in technology we have observed with rise in price. So, See, again we are using technology that the particular technology that we used to produce. You know technology is a black box, we will learn that technology is a black box that takes for economics purpose, that takes certain input and produces certain output. Just because price of electricity has gone up it is not about it. Technology is not about price, technology is about like this is technology that you need one unit of electricity and one unit of bauxite to produce one unit of aluminum, this is the technology. So, technology is not changing, it is just the price of producing aluminum is going up, you understand fine. So, effect is similar, but it is not the same thing fine. So, now you see here equilibrium price of steel is coming down and equilibrium quantity of steel is going up. So, what we have done we have considered this first and second part individually. Now, what if we consider these two together, what will be its impact? So, now, I am saying that, let say the price of electricity has climbed up and aluminum production is intensive in electricity and steel is substitute of aluminum in production as well as in consumption, what would be the impact of increase in electricity price on steel market? Think about it. Steel is a substitute, sir its. Ah? Supply curve would. shift outward. Supply curve. Demand curve will shift rightwards. So, we get a new equilibrium. We will get new equilibrium point. So, let me draw it here. Sir I do not think. So, they there will be any change in demand curve as such. Now. Demand will change because Demand curve will not change demand will change, Sir Demand curve will changge When we say demand changes, it we mean is the demand curve is changing. While demand curve will change, now aluminum more expensive, people will be willing to buy more of steel because steel is a substitute of. aluminium Aluminum. Sir, demand is changing, its curve will not shift right. Curve will shift. Remember just, just to remind you let us look at the steel demand for steel curve this is demand for steel curve, here we have price, here we have quantity. Sir, got it Just let me explain it. So, what is happening now this curve you move along this curve only if price of steel is changing. You shift this curve when any other that can affect the demand of steel is changing and here the price of aluminum is changing which is the factor that affects the demand of steel. So, you will get a shift rather than a movement along the curve. Yes, sir. Fine. So, now, what is happening that supply of steel is increasing and what is happening to the demand. Demand is also increasing. Demand is also increasing. So, we can say clearly the quantity, quantity of steel is going up. Can we say anything about the price of steel in the market? It will remain same. We have to. We cannot say anything but Do not look at the graph because graph can, how about drawing the new supply curve rather than like this I draw it like this. So, what we get, you have to because right now we are interested in qualitative result. So, it is good idea separate the effects into two part and what we obtain let me draw it here, here it is because of the first what we observed, we observed that. Price increase. Price as well as the quantity increases. So, this is the first effect, this is the second and this is the total. So, this increasing and this is increasing fine. How about for the second? Quantity is increasing. Price is But price is. Decreasing. Decreasing. So, the overall effect here, it is very clear for the quantity that it has increased, this we do not know, to say the impact we have to understand the not only the direction, but also the quantity. Quantity. That we do not have. Right now, we are doing this qualitative analysis, we do not have the quantity. So, we cannot say the only thing that we can say that total impact on the quantity would be, that more of steel would be bought and sold in the market, it is clear.
Microeconomics	Lecture52_DMRS_and_Convexity_Example.txt	And let us take some example, where what we have is, on x axis we have good 1 and on y axis let us say just say good 1 and good 2, not necessarily the item 2, item 1 and item 2. Let us say there is an individual who does not care for the item 2. Let us for example, let us say that good 1 is milk, and good 2 is cola and an individual does not like cola he does not drink his, he is indifferent. Then how would his indifferent curve look like. It does not care about good 2. So, then it is vertical line nothing else. So, what would be the marginal rate of substitution here. Marginal rate of substitution of good 1 with respect to good 2 is infinity. By the way here in this case we call good 2 as Neutral for this particular person. What we can have is, and let us say if I change, let us say now I talk about marginal rate of substitution, let us say good 1 is milk and good 2 is cola. Now I say milk is on x axis, y axis and cola is 1 y axis. Can you draw the indifference curve. yes Horizontal line, and what would be the marginal rate of substitution. See just be careful, when we are talking about marginal rate of substitution of milk with respect to cola, it would still is infinity, but marginal rate of substitution of cola with respect to milk is 0. So, when we do not say when we say just MRS, we are not using any particular term, you can use both way, either you can say of good 1 with respect to good 2 or of good 2 with respect to good 1, but by convention we will follow that whenever we say MRS. What we mean is, MRS of good 1 with respect to good 2. Is it clear? We will always use this, yes here is 0 and MRS here is infinity, but in both the examples MRS of cola is infinity, the axis marginal rate of substitution could not change fine. So, just be careful what we are talking about. This is you know a point of confusion many people just change the axis when they talk about it, and you get completely different result. Instead of getting x you get 1 by x, and why? Let us see what do we mean by marginal rate of substitution mathematically. So, let us say this is good 2 and this is good 1, what we have here is, an indifference curve. Of course, I have taken an indifference curve of a person who exhibit, whose preference exhibits convexity. What we are talking about is, let us say 2 points, let us say this is 2 and this is 4, does not matter this is and then what we have here is 3, and this is 3 does not matter, and what is marginal rate of substitution in this case, minus 1. We will let us change it little bit, let us put it here 3.25 just for example, because what is the marginal rate of substitution here, MRS by the definition that we have used is minus 0.75 why? Just wait I will come to that, why what is happening, increase in x is, why we are getting minus sign, because of course, when we have convexity what we will get. I think the better explanation for this why do we get this, what is the reason, why do we see this that to get 1 good you will have to give up the other good, both what we are assuming that both these items are good, means they give certain satisfaction or certain you know utility to the person, and what we want. We want this person to have the same level of utility, same level of satisfaction by consuming one of these two bundles. So, of course, when we are increasing the amount of 1 good to bring what will happen using this, if we use the monotonicity what will happen. More of 1 good and same of the other good what will happen. If more of 1 good what is happening let us see. From here you are moving here in this direction, here at the screen, its increasing from 2 its going to 3, and while the amount of second good is 4. Of course, here satisfaction would be higher using monotonicity. So, to bring this person back to the original satisfaction level what you need to do is, this is delta x 1 and this is delta x 2, you will have to decrease the amount good 2. So, increase should always be accompanied by decrease in the other good, if both are the goods. If one is bad, remember the definition right from the beginning if one is bad then marginal rate of substitution would be positive, because to increase the amount of bad you will have to compensate that person by giving more of the other good. So, in that case marginal rate of substitution would be positive, but here in this case it is negative, and what is this 0.75 to give a basically what we are talking about, that to get 1 more unit of good 1. So, here we have in denominator we have good 1 and changes 1 unit. How much change do we need in the second good, 4 minus 3.25 and of course, I should put a minus sign here, and this is you get 0.75. So, what is this, what is marginal rate of substitution. Marginal rate of substitution is nothing, but the slope of this indifference curve. So, what would be mathematically more sound rather than talking about 1 more unit of good 1, we should talk about very small unit of good 1, and with respect to get very little amount of good 1, how much the other person is willing to give up, the another good, but we have to measure in terms of per unit of good 1. So, that is why in that case MRS is going to be, let us say in other word, let us see if we just do it mathematically, the original bundle is x y, and let us say what is happening from x y what we are having, change is x plus delta x and y plus delta y, and what would be the slope, what we are certain about that let us say, this is x y and this is x plus delta x comma y plus delta y, what would be the slope. The slope is going to be y plus delta y minus y divided by x plus delta x minus x, delta x. Although I am not using it here; see what I have done I have increased the amount of good 1 and I also have increased the amount of good 2. Typically if delta x is positive delta y has to be negative. So, we will get here negative value, but sometime in some books you would see, that MRS is given as a positive number, that only means that the author has introduced a negative sign here to convert the MRS into a positive number. So, it does not matter. Is it clear?
Microeconomics	Lecture18_Consumer_Surplus.txt	Now, also in the beginning I also said that we would talk about one more application that is taxation, but we will wait. Let us cover consumer surplus and producer surplus and also elasticity and then we will give the example of taxation because when we talk about taxation, we will not only use the concept from demand, supply and market equilibrium we will use the concept from consumer surpluses and elasticity also. So, what is consumer surplus? Have you ever heard this term consumer surplus? The consumer surplus of a consumer, let me write, of a consumer in a transaction is the difference between value of the good and amount that consumer has to pay. So, consumer surplus of a consumer in a transaction is the difference between the value of the good and amount that consumer has to pay for that good. Now, what is the value? Right in the beginning I talked about the value. When we start talking about value of a good what is the value? The amount that. Maximum willingness to pay for a good, maximum willingness to pay, and how much the consumer has to pay. Is market price. Market price. So, it is basically consumer surplus from a transaction is the difference between maximum willingness to pay and market price fine. Now, what does it mean? This is the definition, but what does it imply; can I say it is the benefit that accrue to a consumer in a transaction? Let say when I go banana example that I gave you earlier when I feel when I think that I would be willing to pay let us say 50 rupees for this banana because I am very hungry and, but I have to pay only 5 rupees. So, difference in this transaction when I buy this banana I gain 45 rupees not in the money the not the money that we get, but the value of gain value of this transaction for me is 45 rupees and that is the surplus that I obtained by participating in this transaction, is it clear? So, I can say the consumer surplus is net economic benefit from purchasing that particular item. Let us go back to the table that I had given right in the beginning of this chapter, what we had in that chart table was the quantity with marginal value. So, what we have here is 0 1 2 3 4, let us keep it till 5 and from 0 to 1 we talked about 56 unit of marginal value this is the same example from the beginning of this chapter and when from the first banana to second banana it is 42, from second to third banana it is 30, from third to fourth it is 20 and from fourth to fifth it is 12. We can draw it, marginal value here and the price here. You can say this is 56, this is 42, this is 30, this is 20, this is 12 let us see and here its quantity 1 2 3 4 so on. Now, let us say in the example I told you that how about if the price of one unit banana or apple I do not remember whether I used banana or apple, but whatever it is does not matter. Let us say the unit price, the market price is 14 rupees. So, here is the market price let us denote 14 here 14. How many units will you buy? 3, that we have learned in the last class because to buy fourth unit, you will buy 4 units. The graph. Graph is poorly drawn, let me again, wait wait wait wait I will try again. Here we have Q here we have marginal value from 0 to 1, it is 56, from 1 to 2 what we have is 42, from 2 to 3 what we have is 30, from 3 to 4 what we have is. 20. 20 and from 4 to 5 we have. 12. 12, this is what we have fine. This is 12 20 30 42, fine. Now, the market price is 14 this is the market price 14. How many units will you buy? You will be up to 4 units. So, when you buy the first unit how much is the gain the gain is 56 is your marginal value and how much you pay. 14. 14. So, gain is 42, this is 42. How about from the second unit? Your gain is 42 units, but you pay only 14. So, your gain is 28 units. So, here gain is 28 units. How about from the twenty third unit? Your gain is 30, but how much do you pay. 16. 16. 14. So, you gain is 16, this is your gain 16 and from the fourth unit your gain is 20 and you pay 14. So, your gain is 6 units, so 6 units. So, at this particular price your total consumer surplus, total consumer surplus is 42 plus 28 plus 16 plus 6 and how much is the total. 92 92 units fine. So, this is the total consumer surplus from this transaction, is it clear. So, by participating in this transaction you have gained 92 units. Now, let us take an example here, what is happening here the demand curve is a stepwise curve because what we assume inherent assumption here is that you can buy you only integer number of bananas either 1 2 3 4 5. If we allow for the continuous function then what do we get as the downward sloping function as demand function. So, let us take another example let us say demand function is given by P is equal to 30 minus Q. Again is it a demand function or inverse demand function? Inverse. Inverse demand function, but as I told you earlier in the books we use these terms interchangeably sometime we can get demand function from here quickly by writing it in terms of. Q. Q as a function of P, so this is the demand function, so we can draw here of course, we will draw the inverse demand function and how would it look like straight line here is 30, here is also 30. Now can you obtain the consumer surplus as a function of market equilibrium price. How can you obtain? Let say market equilibrium price is P star sometimes, you say that they write it P. So, when P star is the market equilibrium price how many units will you buy 30 minus. 30 minus. 30 minus P star and what will be the consumer surplus, this zone. (Refer Time: 11:42). This particular zone will give you consumer surplus why, because right in the beginning you obtain 30 for the infinitesimal amount, you obtain 30 units of marginal value in terms of per unit and how much you pay P star. So, your gain is 30 minus P star if you add it up what will you get the area of the triangle will give you, area of the shaded triangle will give you. The consumer. The consumer surplus. So, it is half into this height is again 30 minus P star and this is again 30 minus P star, so 30 minus P star squared by 2. Although I have calculated it like this. What would happen if P star is more than 30, can we have negative surplus or can have any surplus? No. But if you put P star greater than 30, what will you get you will get some positive number that is wrong. So, what we should say that this is the consumer surplus if P star is between 0 and 30 and if P star is greater than 30 consumer surplus is going to be equal 0 because when P star is greater than 30 then no transaction will take place, people would not buy even a single unit of this product. So, it will be 0 if P star is greater than 30. Is it clear? So, what we talked about is a case where demand function is a stepwise function where it is a stepwise functions because we allow only integer amount to be transacted in the market. Here we are taking where the continuous any fraction can also be bought and sold in the market fine. Let me also I am not going to solve, but let me say if demand function is look like this. Integrate. How will you get the, how will you get the P Q, how will you get the consumer surplus as you said by integration. We will P star and we will integrate this area and we will obtain the consumer surplus.
Microeconomics	Lecture15_Market_Equilibrium.txt	Now I think we are ready to discuss market equilibrium. We have discussed demand, we have discussed supply, demand from consumer side and supply from producer or seller side. Now we want to bring these 2 sides together. We want to study the market. So, can you think at which level the market would operate, demand equal to supply. Mind you colloquially speaking what you are saying is not wrong it is right, but when you say demand, demand means demand function, demand does not mean quantity demanded. When you just use term demand, demand is demand function or demand schedule. So, what you are saying is, demand schedule is equal to demand supply schedule that is wrong, because demand is an upward sloping function while supply is a downward sloping function. What you meant to say I believe that at the price at which quantity demanded is equal to. Student: Quantity supplied. Quantity supplied and that constitute the pair, the quantity and price pair constitute the market equilibrium. So, let me draw here this is of course, supply S S dash, D D dash is the demand, on y axis we have price, and x axis we have quantity. So, market equilibrium is the quantity price pair at which, the price at which quantity demanded is equal to quantity supplied. Star denotes that this is a special pair, giving the market equilibrium. What is the significance of market equilibrium? The significance is it is a pair, at which both buyers and sellers are satisfied. They are satisfied, let us look at any other point any other price level . Let us look at the price level, this is P dash where P dash is greater than P star. What is happening at this price? The suppliers, suppliers are willing to, suppliers are willing to supply Q dash S while buyers are willing to buy only, Q dash D and of course here Q dash S is greater than, Q dash D. So, it means there are some suppliers in the market, who are not able to sell their product. So, in other words what we have is called, excess supply or it is also called surplus, but there is another surplus also we are going to talk about. So, do not get confused, this is excess supply or surplus. Now, let us look at the, let me draw another graph, so that it does not look bad. Here this is P dash this is Q dash and now we are going to consider a price, P double dash and P double dash is less than P star. Let us see what is happening at P double dash, if market price is equal to P double dash and not equal to P star. At P double dash sellers are willing to supply Q double dash S. While buyers want to buy Q double dash d, and Q double dash d is of course, more than Q double dash s. So, what is happening there we have excess demand. We have excess demand, fine and some of the buyers are not able to buy product, in the market they want to buy at this price, but they are not able to buy. So, in excess demand case, buyers are not satisfied, and in excess supply case the sellers are not satisfied, they have excess of goods in the market, but if you look at the market equilibrium at this price the quantity demanded is equal to quantity supplied, they both are buyers and sellers, they all are satisfied they are happy, it matches. So, this market equilibrium has this is special property. We will do an example. But before that let us look, what is happened in case of excess demand and excess supply? This is the case where we have excess supply, and here we have, just consider just for an example consider potato market, and let us say that market is not operating at the market equilibrium. So now there are 2 possibilities, either the price at which this market is operating, is more than market equilibrium price or less than market equilibrium price. Now let us consider when P is greater than P star, of course we have just learned that in this case we will have excess supply. It means some of the sellers, are not able to sell their product they will be unhappy, unsatisfied but it also means that is one of them would notice, that at this price we are not able to sell our product. So what I should do is that I reduce my price slightly. So that I can sell. Let us say just for example, if you go to them, if you go in a market and you find that everyone is selling potato at 10 rupees per kg, and someone else is selling his potato at 9 rupees 50 paisa per kg and his potato is as good as others. What will you do? You will buy from a person who is selling at 9 rupees 50 paisa. So, this the although in the market you will have excess supply, but at least this particular seller will not have excess supply, he will be able to sell his product fast and this will be noticed by everyone. So, everyone will have this tendency to decrease their price. So that they can sell their product in the market. So, whenever you have excess supply there is a downward pressure on the market price, you understand that. Similarly, we will come to the equilibrium little later, but similarly now consider the case of excess demand, you go to the market probably what will happen in case of excess demand? I am not saying this is the only thing that can happen, but one of the things the, one of the possibilities is that there is a long queue, because there are very few, there are not enough sellers in the market trying to sell their product. Supply is less quantity, supplied is less while quantity demanded is more. So, one repercussion one possibility is that there will be a queue, people waiting in the queue trying to buy this potato. So, one of the consumer probably would notice that you know if I’m, if I offer a little bit more price, you know will get the potato immediately. So, in that case he would offer and he will get his demand fulfilled immediately, and that would generate incentive for all buyers. So, whenever you have excess demand there is an upward pressure, on the price. And here let us see this is the upward pressure, and when do you think this upward pressure will vanish from the market, or when in case of excess supply when the downward pressure vanish from the market, when you reach to the equilibrium. So, in this sense when I say market equilibrium, it is in this sense that no one has incentive, to deviate from this particular price of course, remember this is abstraction, we are talking about not exact reality, we are talking about a model where that for example, that the potato farmer, that many potato farmers are come in a marketplace selling their product, I’m not talking about that, I’m not saying that only unique price has to exist, you never find this unique price in the market, typically what happens you may find that at some place, farmer is selling his potato for 5 rupees per kg, and some other place 6 rupees per kg. Why it happens? Probably the transportation cost or transaction cost. So, we are abstracting from that sort of scenario, we are talking about a highly idealized situation. In this highly idealized situation you will have one particular price market equilibrium price at which goods will be bought and sold, and of course later on as we progress in this course, we will learn the condition, you do not know the assumption that we need to achieve this sort of market, fine but that is for later, is it clear the excess demand and excess supply. Now, let us do a simple problem to obtain, you know just a simple numerical problem to obtain the market equilibrium. So, let me write, the this is the equation for supply function, and let us take another equation for demand function. By no way I am saying that all the supply functions are given by this equation. This is just an example for illustration, and this is demand function and if you want to, if you want to distinct differentiate this P, from this P what you should say, that this is the price that supplier wants, and this is the price that buyer is willing to pay, what happens at the equilibrium. We get 2 more equations what we get that Q S is equal to Q D, at equilibrium Q S has to be equal to Q D that is quantity supplied has to be equal to quantity demanded. And also, the price that supplier gets is equal to the price that buyer pays. So, this is P D. So now we have 4 equations 4 unknown we can solve it. So, what we can do, that we can replace Q S and Q D by Q, and P S and P D by P. So now, it will transform the 4 equation system into a 2 equation system, and we get Q is equal to 3 P, and Q is equal to 50 minus 2 P, and we can write 50 minus 2 P is equal to 3 P, we will take this 2 P to this side, and then we get 50 is equal to 3 P plus 2 P and that is 5 P, and P is equal to 10. And mind you although we get P is equal to ten, but it is P star. The equilibrium price is 10, and when we get the equilibrium price, we also get the equilibrium quantity. We can use either this equation or this equation using one of these 2 equations, we can get the quantity at the market equilibrium price. And that is 3 P and that is 3 multiplied by 10, 30. So, market equilibrium can be given by an ordered pair, that is 30 comma 10; 30 denotes the quantity demanded or supplied, and 10 denotes the market price, P star Q star.
Microeconomics	Lecture68_Expenditure_Minimization_as_a_Dual_Problem_of_Utility_Maximization.txt	So just to revise; what we have done in this chapter; we have started with the consumer, we have talked about how he selects a bundle that would give him maximum level of satisfaction given all the constraint this consumer has. And of course, the maximum level of the satisfaction, we use utility to represent that satisfaction. So, mathematically, I can see what a consumer is trying to do? Consumer is trying to maximize his utility. And again, I am taking only 2 goods in this world one can take in goods as long as n is finite, we are fine with it and we maximize it with respect to x 1 and x 2. And of course, what we have we have started with we have taken some axioms that this utility should satisfy, and those axioms are rationality axioms, continuity, monotonicity, and convexity. Again, I am not saying that all of us our preferences satisfy all these axioms, but what I am talking about is true when these axioms are satisfied. And of course, what I am talking about may be true even if some of these axioms are not satisfied, but I am talking about only the cases where these axioms are satisfied. And this utility maximization has to be done with respect to some constraint and the constraint the budget constraint we take P 1 x 1; P 2 x 2 should be less than or equal to I; P 1 is the price of good 1, P 2 is the price of good 2, x 1 represents the amount of good 1, and x 2 represents amount of good 2 and I is the income of this person. And here, we have sign less than n equal to but remember here what we said that these axioms should be satisfied monotonicity should be satisfied it means more is better. So, we cannot have a situation in the optimal level where P 1 x 1 plus P 2 x 2 is less than I. Why it means some of the income is left this person does not derive any satisfaction from leftover income. In real life, it is possible that a person derives some satisfaction from having some money left in his pocket, but the way this problem has been framed here the person’s satisfaction depends only on his level of consumption of good 1, and good 2. So, he does not get anything from keeping some money left in his pocket. So, there is no point having considering this situation because by increasing x 1 and x 2 this person would not lose anything, but will be able to increase his level of satisfaction or that is utility so that is why in optimal level, this has to be true with the equality sign. So, right now we are going to consider a problem where the utility maximization problem is given here under the constraint this ok. In other words graphically what we are saying? Graphically what we are saying that here we have our indifference map, and here is our budget constraint fine and this is the optimal bundle this is what we have done. Now, let us look at this problem from different little bit different angle rather than taking indifference map and what is an indifference map it is set off some indifference curve so that we get clear picture of this person’s utility or this person’s taste. So, let us take just one indifference curve and this is this let us say this is u naught, and let us say we are taking u naught here. Now, here what we are talking about we are talking about that we have certain budget constraint and under this budget constraint what is the maximum level of utility that can be achieved by this person? Now let us turn this problem little bit you know in the opposite direction; we say that this person wants to achieve this u naught level of utility which is same as this u naught ok. How much what is the minimum level of income he needs to get, this u naught level of utility. So, what is happening P 1 and P 2 these are market determined that so we are taking because we are talking about consumer P 1 and P 2 is its from the market and individual let us say that so far we are taking that individual is not able to influence P 1 and P 2, we are talking about that scenario. So, the budget the cost of having let us say x 1, and x 2 x 1 amount of good 1 and x 2 amount of good 2 is going to be P 1 x 1 and P 2 x 2. And what we are trying to say that this has to be minimized. This what we are saying that we should be able to achieve u naught now how can we achieve u naught we can take any bundle let us say if we take a bundle here that will give us u naught utility, a bundle here that will also give us u naught utility, a bundle here will also give us u naught utility ok. This bundle is let us say x 1 1 comma x 2 1 or it is a 0.1. Similarly, what we have here is x 2 here is x 3 ok. And how can we what is the idea to minimize the expenditure I should achieve let us say if I am that consumer I should be able to reach to this utility level by spending as less as possible. So, what we are trying to do basically we are trying to minimize let me write it to this side. So, I will write the earlier problem this side what we are saying minimize P 1, x 1 plus P 2, x 2 such that u of x 1 comma x 2 is equal to u naught. Did we talk about earlier that maximize u of x 1 and x 2 with respect to x 1 and x 2 again here also it is with respect to x 1 and x 2 because x 1 and x 2 a consumer can decide the amount of x 1 and x 2. So, what we have here is such that P 1 x 1 plus P 2 x 2 is equal to I. Now let us look at these 2 problems; what is happening is so what we can do here; let us look at this problem the new problem, what we can do here P 1 plus x 1 plus P 2 plus x 2 is equal to let us take K, where K is any number. So, for different numbers of K, if we try to draw this because this is a line how did it look like? Student: Downward sloping. Downward-sloping, slope is again going to be equal to minus P 1 by P 2 here also is slope is minus P 1 by P 2 ok. And similarly, we can draw for different values of K and this is the optimal bundle, this is the bundle; let us say x star and here is let us call it also x star in the old problem just to distinguish x star in the new problem. What we have done here we have taken the indifference map and then we have taken the budget constraint and what we have done we have started checking with the what is the highest level of indifference curve that can be achieved under this budget constraint and we have figured out that x does not or x naught 0 x star 0 is the optimal bundle. Now, what we are doing we are from here we figure out that x star dot x star 0 the utility level is u naught we take that utility level, and we draw only one indifference curve where utility level is u naught fine. Now what we are doing we are drawing a set of a family of this line P 1 x 1 plus P 2 x 2 of course, different line corresponds to different value of K. And what is this K? K better representation would be e because it is expenditure on x 1 and x 2 these are also expenditure lines I can say. We take any bundle here the expenditure is going to be the same in both of these cases, that is what it represents. So, can you say any relation between x star n and x star naught or x star is 0 any relation they are going to be the same? Why they are going to be the same that this this line is going to be the same as this line and this indifference curve is the same as this indifference curve again here it is very clear that in both the condition both the scenarios, the tangency condition have to be satisfied. So, again it will be tangent at the same point. In fact, we can overlap what we are doing here we are varying the indifference curve and keeping the budget line fixed and what we are doing here we are varying the budget line in the other word expenditure line, budget line is also an expenditure line. We are varying the expenditure line while keeping the indifference curve. Student: Fixed. Fixed. So, basically, these two are dual of one another. If we solve these two, we reach to the same consumption bundle; it is clear. So, if we solve it what do we get? Here let us say for x 1 instead of using star let me use term M I will explain what does this M, this is x 1 m is a function of P 1 P 2 and I here u naught is not fixed. What are the parameters P 1 P 2 and I so x 1 the optimal level of consumption of good 1 should be given as a function of parameters in this system and the parameters are P 1, P 2 and I is it clear? Similarly, let me write here x 1 H again, I will explain what is H only thing that you should remember at present that this is the optimal level of consumption of good 1 and this is the optimal level of consumption of good 1 here in this system and this should be a function of what are the parameters here P 1 P 2 and u naught. Student: U naught. Because here u naught is fixed, here u naught is fixed, and also what we can say I; I is equal to e of P 1 P 2 and; Student: U naught. U naught, why what is I? I is P 1 x 1 plus P 2 x 2. What is e? E is nothing but P 1 x 1 plus P 2 x 2. We are checking we have set up the problem such that this I is equal to this u naught and what we have learned is that x 1 m P 1, P 2 I is equal to x 1 h P 1 P 2 u naught. This is what we have learned this is an identity not just equal to this is an identity this is always true. I can write it further if you pay attention to this that x 1 m P 1 comma P 2 and I is e of P 1 comma P 2 and u naught nothing, but I have used this equation here; is it clear? Student: Yes.
Microeconomics	Lecture82_MRTS_Few_Examples.txt	Right now, let us try to calculate MRTS for three different cases. One when the production function is Cobb Douglas production function. So, now you should understand that Cobb Douglas is the name of the form particular form that we use; it can be use for utility, it can be used for production function let us take a particular one Q is the power a. L to the power b. L to the power b what will be the MRTS? How can we calculate the MRTS? d Q by d L by d K b Q by d KL. So, before we do that let us take a general case what is basically happening? We are using let say to produce Q naught level we are using K naught and L naught. And now what we are talking about? We are changing K naught to K naught plus delta K naught and let us leave it leave it as positive because we know if one input is increased, second input has to be reduced to come to the same level, but expression will bring that minus sign. So, do not worry about it L naught plus delta L naught. So, basically what we have done? Remember in this graph we start with here and we are trying to move we are we will change L such that that we come to the isoquant. So, we will come to here; so, earlier point is K earlier point here is and the new point is of course, what we are assuming that they are on the same isoquant here we have L naught plus delta L naught comma K naught plus. Delta. Delta K naught fine now in both case this should also give us the same level of output fine. So, if you know the Taylor series expansion then it is very simple what we can do? What we can write? This is equal to F K naught. K naught. Comma L naught plus. Plus. Of course, we will take the approximate because Taylor series expansion we will have infinite term that we cannot you know we will not use. So, just first terms and here what we have? Ok this will get cancelled and what we will get? d is equal to 0 or in other word what we will get? Minus MPL by MPK Fine and what is this? MPL. MPL there will be a minus sign here MPK K. and of course, we need to take limit. So, basically what we are getting? The slope is equal to minus MPL divided by MPK divided by sorry. MPL divided by MP guess. Sorry just a minute let me check it ha MPL divided by MPK is it clear? Yes. And this is how we can calculate this is what we had just discussed that this is MRTS. So, this is MRTS there is another way to do it also just mathematics you should be familiar with what we are saying is that. What we are saying is that with the new level again the same technique we can use ; we are producing the same amount , we are producing the same amount. Or in other word by changing del K in capital and del L in labour, we are not able to we are not changing the level of production. So, by totally differentiating it what we can get? This is or let us say just leave it like this; this is Q and by changing Q and L we are not M is not to change the Q, but m is to keep the Q fixed. So, by if we are changing K and L what we can write that d L by d L delta K. Delta K. Plus d F by d L Delta L this should be. 0. Equal to 0 and we will again reach to the same level and there are several other techniques also. The other technique that also this is called total differentiation other here we use Taylor series just you should be familiar with the technique this is Taylor sort and this is called total differentiation. Ok and third is again we will reach to the same point Implicit function theorem. Again, I am not getting into detail, but you should know look at it the graph this is L this is F and value is Q naught. So, basically what we are saying? Q naught is equal to function of capital and labour but Q naught is fixed, Q naught is a number. So, what we are saying that to obtain Q naught K if we are changing the L then K should be a function of L fine. So, basically this is what we are saying K as a function of L, and this is L; this is your independent variable. Now, differentiate it with respect to L again you will reach to the same point, but that is immaterial. What is important is that the marginal rate of technical substitution is in this particular case minus MPL divided by. MPK. MPK and now we have a Cobb Douglas function; Cobb Douglas function is K to the power a, L to the power b let us calculate the marginal rate of technical substitution how can we calculate? First, we have to calculate. MPL. MPL and how much is MPL? b. b K to the power. K to the power L L. b minus. B minus 1 and what is MPK ? a. a. K to the K to the power? a minus 1. a minus 1. L power b. L to the power b and now it is very simple marginal rate of technical substitution is equal to minus or in other word minus b K divided by a L is it clear? Let us take another example; earlier we talked about a production function where both inputs are perfect substitute of one another; it means what we have is the production function is linear in. K and L. K and L here we have K here we have L Q is equal to a K. Plus. b L and what would be the marginal rate of technical substitution? Minus b by. Minus b by a in many books you will see in many places you will see that there is no minus, but you know for yourself that you know that it has to be negative. So, you can omit this negative sign as long as it is clear in your mind that marginal rate of technical substitution cannot be positive; in some book they define that it is negative of this MPL by. MPK. MPK in some book they just divide sorry it is a described as it is simply a MPL divided by. MPK. MPK, but does not matter fine it is clear? How about, when these two factors of production are compliment up each other. Think about it. So, what we can say at corner point we cannot. Define it. We cannot define how about in this zone where it is horizontal. It is 0 sometimes, you know just looking at graph you can figure out; here in this zone it is 0 and where it is vertical it is? Infinite. Infinite and at corner point it is not defined. Defined.
Microeconomics	Lecture56_More_on_Utility_Maximization.txt	Let me justify it, forget about this calculus; just remember these simple things. That Ux is nothing but rate of increase in u with respect to x while keeping y constant and similarly Uy; rate of increase in u with respect to y while keeping x constant this is what Px you remember is price of? x Of? 1-unit of x. One unit of x and Py is price of one unit of y. Now, let’s say you are consuming you want to maximise your utility and you are consuming a particular bundle x and y. Fine, I do not know how you have reached to because there, we talked about how you would reach to x and y. Now, let us say I we do not know how you have reached to this x and y, but if you are consuming let us say you are consuming x and y at the optimal level. Then what does it mean? Let us say, if you have I income and think about this I minus 1 to I rupee means last 1 rupee last 1 rupee that you have spent on either good 1 good or good 2 or on both of them. Let us say if you have spent this 1 rupee on good one. How many units of good one you can get 1 by Px? Yes sir 1 by Px and how much will be the increase in utility? By dx Ux. Ux Ux multiplied by 1 by Px 1 by Px and if you have spent this 1 rupee on good 2 how many units of good 2 you can buy? 1 by 1 by Py what will be increase in utility because of this? Uy by Py fine is this clear? Now, let us look at it, since let us say let us assume that x and y, x is greater, this x, is greater than 0, not equal to 0 greater than 0 and y is also greater than 0 fine. Let us say, if Ux by Px is greater than Uy by Py, just I am saying this is one of the possibilities. There are 3 possibilities either this is greater than first one is greater than the second one or equal or or less let us say this is the possibility fine. And what you are doing? Is you are consuming positive amount of x and positive amount of y. If this is the case, what you would do? That you would increase consumption of x and decrease the consumption of y. X would go up and y would go down. So, then in this case x comma y cannot be the optimal bundle. Why? Because if this is true you will have tendency to increase x and decrease. Decrease Tendency to decrease y, why? Because 1 rupee is bringing you this much change in the utility, this much change in the happiness, this much change in the satisfaction. If you spend 1 rupee on good one, you get 1 by Px unit of good one and rate of increase in utility rate of change in utilities Ux. So, total change in utilities Ux by Px and similarly if you spend your 1 rupee on good 1, good 2, this is the change in utility and if Ux by Px is greater than Uy by Py, then what it means is that spending the last rupee on good one gives you higher utility, then spending the last rupee on good 2, fine is it clear? So, what you will do? You will spend whole last rupee on good one. Then what will it lead to it will lead to increase in x and decrease in y and you will keep on doing, you keep on moving your spending on from good 2 to good one, as long as this is true and vice versa. So, at the optimal level if you are consuming the positive amount of good one and good 2. Then, Ux by Px has to be equal to Uy by Py is it clear? Remember, what is the catch here? That x and y both has to be both have to be positive if you hit 0 for one of the good you cannot decrease it any further that scenario, we will talk about little later. But if at the optimal level x is greater than 0 and y is greater than 0, then this has to be true. This we independently derived, with argument not using mathematics, this also we have derived using mathematics earlier, here. This is this can lead to this example that marginal rate of substitution should be equal to the slope of the budget line. Now, let us look at it from the third angle, with help of example, is it clear? With help of example. We are doing the same thing again and again from different angles, different viewpoints, where we are talking about the same thing. Let us say remember the example that I gave you mango and coconut. Let us say this is the indifference curve and here we are this is the 1 comma 4, 4 comma 1 sorry. 1 comma 4 1 comma 4, 1 comma 4 fine Let us say this is 2 comma 2.5 just for example, to get one unit of mango what it means is, again if we calculate the marginal rate of substitution what it is equal to? Minus 1. Minus 1.5 what it means in word that to get to get one mango. Willing to sacrifice Mango you will be willing to sacrifice 1.5 coconut fine. 1.5 Let us consider another scenario, if I come and tell you that to get one mango you will have to sacrifice only one unit of coconut. Will you exchange? So, what this means, what this means is that you are willing to give up up to 1.5 units of coconut to get one unit of mango. Is it clear? Fine, anything you know anything less than 1.5 unit, you would happily accept. This is your inbuilt opportunity cost, it is not exactly opportunity cost, but you use the word that is why I am using it. But here it is opportunity cost, if we looked if we look at the budget line. Here we look at the budget line, what is this? Px plus Px x Py y is equal to I. And from we move to1 1 comma 4 to 2 comma 2.5, in other word from x comma y we are moving to x plus delta x and y plus delta y fine. What is happening? Px delta x plus Py delta y should be equal to 0 because budget constraint has to be satisfied and we also know because of monotonicity the optimal bundle we will find on the budget line, not inside, not at any interior inside point fine is it clear? Now, what does it mean let us let me write it here delta y by delta x is equal to Px by Py this is market exchange rate, this is market exchange rate of course, we are talking about 2 good world. So, there is no money here involved you are bartering, you are exchanging mango for coconut and coconut for mango. And this is the market exchange rate that we have obtained. Now, let us consider a scenario where MRS is not equal to minus Px by Py what it means here to get market rate to get one more unit of mango you will have to give a Px by Py units of coconut this is opportunity cost. This is opportunity cost, because you have 2 activities available either you consume mango or consume coconut. So, it is the cost of opportunity cost is the cost of value of the best alternative for gone. So, if you are consuming mango what you could have done? You could have consumed coconut. So, it is value of coconut. So, this can be used as the opportunity cost. What did we obtain here? How much this person is willing to pay for one unit of mango? Up to 1.5 units of coconut. Now, let us say minus Px by Py is 1, minus Px by Py is one what it means that in market you can exchange one mango for one coconut or one coconut for one mango. Now, in this scenario, when you are marginal at that point your marginal rate of substitution is 1.5 and your slope of the budget line is 1, it cannot be optimal. Why because what you are saying to get one unit of mango you will be willing to give up up to 1.5 units of coconut. And you will be at the same indifference same utility level. So, what you would do here? Because, the the exchange rate is just 1 is to 1, what you will do? You will happily give up what one unit of, you will happily get one unit of mango, because think about it again. What will you do? The marginal rate of substitution is 1.5 you will be willing to give up, to one mango you will be willing to give up to 1.5 units of coconut, but. So, you in your mind in to satisfy for your happiness to keep you at the same utility level, you are willing to sacrifice up to 1.5 units of coconut, just look at it here at this point. Let us say because of some reason for some reason, you have to sacrifice more than 1 unit of 1.5 units of coconut where will you end up to get one more unit of you will end up somewhere here somewhere here. And this point is below indifference level. So, you will be at lower utility level. But let us another condition would be that you have to give up less than 1.5 units of coconut, where will you end up? Somewhere here. On the same line, on this line on this line and you will end up here and you will have higher utility. So, that is what happening, you will happily give up 1 unit of coconut to get one unit of mango and your utility will be higher. So, that bundle cannot be optimal, what we are talking about the condition for optimality. So, in the other direction you would reach to the same conclusion so at only 1 point you will have. Maximum. The maximum possible utility given your budget constraint, where your marginal rate of substitution is equal to market exchange rate or in other word where the slope of your indifference curve is equal to the slope of budget line. But remember whatever we have discussed here the scenario what we are assuming that x and y at the optimal level they are greater than 0. Is it clear? This optimality criteria is clear, the tangency criteria what it says? That if let me say if an individual preference satisfies axiom one to how many axiom that we have discussed? 5 axiom 1 to 5 and at the optimal level what is optimal level the max that is the maximum possible utility in given budget yeah. Sir, if we are following strongly following all these axioms. We strictly following 1 to 5 axioms then is it necessary to specify that x is greater than 0 and y greater 0 because We do not have to specify then, we in that case we do not have to satisfy it will automatically be satisfied. What we are saying at the optimal level the maximum possible utility in given budget will be achieved, where the slope of indifference curve is equal to the slope of of the budget line. Budget line under the condition; that at this level, level all the goods are consume in positive quantities, that is very important.
Microeconomics	Lecture44_Defining_Utility_Function.txt	Now, here you have 2-dimensional world then you have just 2 elements in a consumption bundle. If you are talking about n dimensional world, we will have n different goods in a consumption bundle. So, is there any way if that we translate this problem from n dimensional problem to one dimension, what we are interested in that whenever we compare 2 bundles, we should able to rank them and those rankings should be consistent over the whole consumption set. So, how can we rank, do we need you know we can rank then just like first, second, third, fourth and we are not really interested in first second third fourth we are just interested can we say here let me say just here that this has value 10. Hm. This has value 5 and this has value 1. Hm. Association with So, we compare these 2 numbers since 10 is higher than 5. Sir. Its rank higher. Hm. 5 is higher than 1 its rank higher. So, instead of dealing with these things dealing with 10, 5 and one because these are one dimensional while these are 10 dimensional it is not easier. Hm. So, what we can do, we can define a function. Utility function. We can define a utility function and what is the utility function what does this utility function does? A function describes a utility. Its represent. Utility. A person’s preferences. Hm. It represents a person’s preferences. preferences So let me give you the definition of utility function. The function u, that is I am talking about the function u, function u is from set x to r and this set x is consumption set. Consumption set. From consumption set and what is this r represents. Real number set. Real numbers, real number set from consumption set to the real line. So, the function is a utility function ok. So, the utility function that represents preference relation denoted by this, this is a relation if for any 2 bundles x and y in consumption set what we have let me let me change into if and only if what we have is. So, the function u from the consumption set to the real line is the utility function representing the preference relation if and only if between any 2 bundles from the consumption set and what we get. If x is at least as preferred as y then we get u of x is greater than or equal to u of y other way around that if u of x is greater than or equal to u of y then what we get x is at least. preferred As preferred as y. y. So, now, instead of dealing with a bundle which has n goods we are dealing with a particular number assigned to that bundle and comparison becomes a lot easier just to compare the 2 number. Just let us check that will it satisfy the 3 properties it will because whenever you take 2 bundles of course, a number will be assigned to a particular number will be assigned to a particular bundle. So, both the bundles will have their own numbers you can compare those numbers and when you compare there are 3 possibility that 1 is greater than the other or the second 1 is greater than the first or these 2 are equal. Equal. So, completeness is satisfied, similarly if you take a bundle again compare it with itself a number is at least as big as itself. So, reflexivity is also satisfied how about transitivity, transitivity is also satisfied. Satisfied. Because Take 3 bundles if one is greater than. second The second and second is greater than the third then of course, first is greater than the third. Third. Implying that first is preferred over the last. So, all these 3 properties are satisfied fine. Yes sir. So, you can prove it, I am not proving it rigorously and how about preferences, which do not satisfy the 3 axioms. can they be represented by a utility function? Hm. Think about it, again it is good idea to try to prove it mathematically. Of course, they won’t, let us take up person who has cyclic preferences. Means orange, apple, and mango that we used earlier. We will not have any such utility function describing this cyclic rotation, why? Let us say assign it 5. Each of. Assign it 6, what would you do here. each of 3 utilities would converts to infinity. Each of Each of 3 utility, each of the products utility would converts to infinity because one is greater than other one is greater than other one is greater than other. Huh that is one way to look at it, but what I am saying just look at assignment the way we need to assign that orange is preferred over mango. So, then let us say you give it here 6 and you get to mango 5, a mango is preferred over apple strictly prefer. Sir. So, here you give 4, but apple is preferred over orange, but 4 is not greater than 6. 6 6. So, we cannot have this sort of assignment. So, I am showing it you through an example, but what I am saying is much more broader, that any preference which does not satisfy the 3 axioms cannot be represented using a utility function fine. Function. Now, let us look at it one more, lets go back to the discrete example that I gave you where we ranked and we said 10, 5 and 1, if I say it is 100, it is 6 and it is 2. Hm. We are still, these numbers and these numbers, these numbers is coming from a different utility function and these numbers of course, coming from a different utility function , but let us compare these 2 in both you get the same order the complete order that you get. It is the same as the previous one and when we are talking about rational preferences what we are worried about the complete ordering that you take any 2 element you should be able to order them rank them and that is true for any bundle ok. So, that does not matter whether you use this scheme or you use this scheme you are describing the same preference. So, what does it mean, that the utility function that we have talked about is not unique for a particular person preferences. It is not if you get a utility function you can definitely find another utility function, let us say you just add one in then that utility function you get another one as again one fine. Hm. So, it is not unique. So, let me give you again more general result and the result is the function u. If the function u represents an individual preference; So, of course, this individual has to have rational preference otherwise it cannot be represented by a utility function. Utility function. Then any monotonic transformation, I will come to it what is monotonic transformation. Any monotonic transformation of you will also the represent the same preferences, same preference fine. Is it clear? Yes sir. Let me give you an example let us say that again its good you know it would be simpler if you imagine a consumption bundle with the finite number of bundles. Bundles. A consumption set with finite number of consumption bundles. Hm. And let us say you have ranked them, and you have a rubber that you can stretch you can shrink you know and you can stretch you know for a different part different and on the rubber you have marked the position of different bundles. Hm. Now, you stretch that rubber what you will get let us say the original position will be given by a particular function utility function when you are stretching you will get another function, but it would not change the rank. So, that is what monotonic transformation does, that monotonic transformation preserves the rank it does not change the rank. If 1 is greater than the second and we do a particular kind of transformation where this with the; new valuation 1 remains greater than the second then we do not have any problem and that is what we are talking about. So, what if you have little knowledge of mathematics? Let us say u is the function, utility function and then monotonic transformation will be presented by v. What is v? v is nothing, but g of u. Hm. Where g dash is greater than. 0. 0 at all fine is it clear. It can be less than 0. It can be less than 0 mathematically speaking it can be less than 0, but in economics by convention we use for monotonic transformation v dash greater than 0. For less than 0 So, for, so, what happens if it is less than 0 from the whole range then what would happen it would inverse the ranking? Yes sir. So, in mathematics when we talk about monotonic transformation what we mean g dash is greater than 0 at all points or dash is less than 0 at all points, but in economics when we say monotonic transformation what we mean is that g dash is greater than 0 at all points fine. G dash less than 0 is also monotonic transformation. So, what we are doing let us say this is the rubber and we are stretching it here are this. So, we can stretch it in the different manner that this part remains the same, this part let us say here 1, 2, 3, 4, 5, 6 bundles. So, what we can do, one we can stretch here 2 we are keeping there 3, we are keeping there 4, we are stretching 5 little less, 6 we are stretching. What we are talking about this that order, we are keeping the order preserved and then we get another new utility function this is fine with you.
Microeconomics	Lecture01_What_is_Economics.txt	Welcome to NPTEL course on microeconomics. I am Dr. Vimal Kumar, assistant professor at IIT Kanpur. I am going to teach you microeconomics. So, before we start talking about microeconomics let us learn about what is economics. Economics has several definitions. The basic definition that you would find in most of the textbook is, that economics is the study of allocation of scarce resources to satisfy individual wants or desire. So, let us look at the keyword, let me repeat the definition again; the economics is study of allocation of scarce resources to satisfy individual needs, individual wants not needs. So, let us look at the key words in this definition. The first key word that we will pay attention to is resources. The second keyword we will look at is wants or desire. The third keyword we are going to look at is scarce. What do we mean by scarcity or scarce resources? The fourth key word we will look at is allocation and fifth we are going to spend some time on individuals also. What do I mean by individuals? So, see when we are going to learn what is economics; we have to familiarize ourselves with the language that economists use, the jargon that is prevalent in economics language. So, to talk about resources, I am going to first describe what we call goods and bads. So, a good is something that gives us pleasure, that gives us satisfaction, something that gives us happiness or satisfaction. So, think about what are the things that gives you satisfaction or happiness, it can be anything, it can be a pen that I am using to write here, it can be LCD screen it can be sweets, it can be a television program, or it can be the time that you spend with your family, it can be anything as long as that thing gives you some sort of satisfaction or happiness we will call that thing in economics a good. And of course, the opposite of good is bad; bad is something that gives you dissatisfaction that makes you unhappy. So, like what would be the bad? Think about it, you can think one example that readily comes into my mind is these days pollution, it makes you unhappy. So, clean air is a good, while polluted air is a bad. Clean air gives you happiness, it gives you satisfaction, while pollution gives you unhappiness it leads to some sort of dissatisfaction in you. So, pollution is of course, a bad. Now, if you have paid attention that the term, that different things that I described as good, you will find they are very tangible kind of goods like tv, refrigerator or sweets, but I also said that the time, that you spend with your family member that is also a good, it is or the happiness that you get derive by spending time with your family member that is also a good. So, when we are talking about good we are talking about two different sort of things; tangible goods and intangible goods. So, a different definition sometime use tangible goods in some time, they are represented by goods. And intangible goods we use a specific term for intangible goods and that is services. So, a service is intangible product, that is used to satisfy your need, or that is services is intangible product that gives you happiness. So, that distinction sometimes we make, but we are very sloppy about it. Sometimes, we use goods for tangible as well as intangible things, but sometimes we say goods only for tangible goods and services for intangible goods. So, keep it in your mind context will make it clear, what is the meaning of goods in that particular context. Now you may say, how can we quantify these intangible goods. So, let us do a thought experiment to learn about quantification of intangible good, because remember in economics we try to quantify not try to, we have to quantify almost everything. So, let us look at it how we have tried to quantify even intangible things in economics. Let us say that you are travelling in a train you bought your ticket. But unfortunately, when TT that is, ticket examiner comes and asks you to produce your ticket. You see that the ticket is not on you, you do not have that ticket. Now TT says that he is going to fine you because you do not have ticket, you are travelling in that train without having proper document or proper ticket. He is going to fine you and the amount of fine, let us say just for discussion’s sake is somewhere it is 500 rupees. Now, if you say that sorry, I do not have this sort of money and he says then, in that case you will have to go to jail for 7 days. So, these are the two options available to you either you pay 500 rupees, or you go to a jail for 7 days. What would you do? Probably, probably you would say I would pay 500 rupees and you would avoid going to jail, but let us continue this thing as a thought experiment. Let us say suppose, he says, TT instead of fining you for 500 rupees he says it is 501 rupees and the second option is that you go to jail for the 7 days. You may still opt for paying that fine. So, keep on increasing keep on increasing this fine in small increments, by one rupee, keep on increasing probably there will be some level where you would say that you would rather go to the jail than paying this exorbitant amount of fine. So, it means there will be a particular level where you would be indifferent between going to jail or paying this particular fine.So, that I would say as an economist, that is the value that you attached to go into the jail for 7 days. Let us say for example, that you stopped at 50 thousand rupees, you figured out that you would rather go to the jail than paying this 50000, then I would say that the value of going to jail for 7 days is 50,000 rupees for you but remember this 50,000 is not a hard and fast rule. It is not like everyone would say that 50,000 is that level where you would shift from, you would change your decision from paying the fine to going to jail. Different people will have different level, it depends how much money you have, how much you value your; how much you value, how much you disvalue going to jail. For example, a person who is very, who is a frequent visitor of jail would probably say I would rather go to the jail than paying this fine So, that is how we try to quantify, we try to quantify everything in economics and that we will see. So now, let me say that, let me define a term reservation price of activity x. What is reservation price of activity x? The price at which you would be indifferent between opting for x or not opting for x. So, let us say we are talking about x and here x is going to jail. So, then 50,000 rupees is the reservation price, at this level you are indifferent between these two things.
Microeconomics	Lecture86_Elasticity_of_Scale.txt	So, we have learned return to scale and what we have seen that; it is defined for we can talk about a production function exhibits, constant returns to scale or increasing return to scale or decreasing return to scale. If it satisfies some condition over the complete range of all the input variables, but what if; you know in a sense we are talking about a global the global phenomenon for in the context of this production function? But sometimes it happens that one of these phenomena is exhibited over a small range of input values and some other over some other range of input values. So, what we are going to do rather than defining it globally, we will define it locally, and for that, we will talk the term is elasticity of scale. So, what is happening; let us look at it we started with Q, that is output, it is a function of capital and labor. And what we said that we will scale up the operation and how can we scale up the operation? Let us say if we take a t variable, that is a scalar t greater than 1, that is what we will stick to t greater than or let us say just t right now t. So, what we are talking about it? Scaling up operation means that instead of using K comma L, we are using t K comma t L not remember not t 1, t 2 but. T. T K and t, because remember what did we say that all the factors of production or all the inputs should be increased in the same proportion. So, it means as soon as we have our initial point K naught and L naught; we can vary K naught and L naught in a particular way and that way is given by this. So, what we can say that now Q is a function of t. In this particular case, remember the current operation is L and K. Let us say this is the current operation. We cannot move in this direction or in this direction, what we have to do? We have to stick to this straight line we can either move in this direction or in this direction. Scaling up means that moving in this direction is scaling down means moving in this direction. So, that is represented by Q of t; Q is now a function of t and what is t? I can say t is scale of operation, is it clear? Yes sir. So, I can say t is equal to 1 means current level of operation. T greater than 1 means we are scaling up the operation fine and t less than 1, we are scaling down, is it clear? So, now, what we can say? What we are basically interested that; what happens if we move on this line. Let us say earlier here we are L, K naught L naught, whenever we talked about return to scale we talked about globally. But now we are talking about what is happening at this particular level of operation and that is L naught K naught, so if we move rather than worrying about the overall range, let us worry about what is happening at this point. And we increase t by small, very small amount. Let us say that t is being increased here at that this 0.1 percent and then output if output goes up by more than 1 percent, what can we say; that locally at this point it is exhibiting increasing return to scale, but in a way, it is wrong to say, because we have already defined increasing return to scale to be true when such kind of thing is exhibited at complete range not just at this point, but at all the points for all the values. So, to do that; we use another term elasticity of scale and how can we figure out rather than talking about, what we can say? What we are interested in it, change in Q with respect to with respect to t; so again remember the logic that we gave earlier when we talked about elasticity; we rather than talking in absolute from what we can do? We can talk in proportional terms. So, what would be the proportional change? This is the proportional change in quantity with respect to proportional change in t and this is what is defined as elasticity of scale. So, let me write it here; I can; if you want to use delta instead of d proportional rate of change in Q with respect to proportional change in t; and of course, Q here is given as a function of t. This entity is defined as elasticity of scale. And this can of course; but where will be evaluated of course, it would be, if we start here start at the original point and then we start comparing here and here these two points, then we will not we are not doing it locally to do it locally, it means if you want to evaluate it at this point, what do we mean; that this entity should be evaluated at t is equal to 1. So, this is the complete definition of elasticity of scale. Can you repeat the t is equals to one part. Go back here; what is t is equal to 1. Current. Current if we evaluate it at t something greater than 1; 1 let us say if we talk about t greater than 1. So, then we are here and then what would it explain; this entity would explain if t; let us say you start with t is equal to 2 and we are talking about change in t ok. So, where will you move from this point to this point probably? So, you are not talking about this rate of change, locally you are talking about again some point away from the current operation. How did we start; that what is happening at the current point? What is the rate of change in quantity with respect to rate of change in scale? So, that is why we are taking t is equal to 1, because t is equal to 1 represents current operation, is it clear? Yes sir. And here then we can say of course t is, if it is great equal to; let us take an example; let us take an example to evaluate; let us take Cobb Douglas function this is elasticity to scale fine. Let us take a Cobb Douglas function Q is equal to, let us say K to the power a, L to the power b. In this case local and global does not matter, because Cobb Douglas has this property, but we are evaluating elasticity of scale fine. So, let us see what happens. First, we have to make it a function of t. So, it means t K to the power a, t L to the power b or in other words t to the power a plus b fine. This can also be written here as d ln Q of t with respect to d ln t evaluated at t is equal to 1 fine. So, let us take log right; I am not going to decompose it, I am going to leave it as it is there is no need and differentiate it with respect to. Lnt. Ln t and what do we get. A plus b. A plus b. So, now, we can say locally Cobb Douglas function exhibits increasing returns to scale, when a plus b is greater than 1, when a plus b is equal to 1. Constant. It represents, it gives exhibits constant returns to scale. And when a plus b is less than 1 then it exhibits. Decreasing. Decreasing returns to scale. So, t is equal to 1 is clear here of course, we did not get it as a function of t, but sometimes we may get it as a function of t fine. So, we can get rid of t by evaluating at t is equal to 1 fine that brings an end to this topic.
Microeconomics	Lecture42_Rationality_in_Real_Life_Vs_Rationality_in_Economics.txt	The term rationality or term being rational in economics or in day-to-day life, are they the same or are they different? They are the same, but interpreted in a different way. They are the same, but interpreted in different way that is what you are say we will see. Let us take an example, let us say a person just for simplicity, let us take an example of two good world; good 1 and good 2 fine. And let us say you are already familiar with this relation. What does it mean? This at least as good as or at least as preferred as that is what it means, this is a relationship when I say a, this at least as good as b. What it is doing? It is establishing a relationship between. a and b. a and b and a and b both are element of. X. X; that is why this relation set is defined on x. So, now, let us say this person has little bit strange kind of preference, what he does when we have two good word, what does it mean that it has, let us say a 1 and a 2. A 1 represents the amount of good one and a 2 represents amount of. good 2. Good 2 and here b 1 and b 2, and let us say just for definition sake I am talking about a specific individual, what he has that if a 1 plus a 2 is less than or equal to b 1 plus b 2, then he prefers, then he says that a is at least as good as b. So, what he cares about? He does not care about good 1 and good 2 individually. He cares about the sum of good 1 and good 2 that he has and also not only that also less, he has more, he likes that bundle. Now, let us check, would you call this person in a way I am saying, let us say good 1 is cloth and good 2 is. Food. Food or earlier can mention, we were using good 1 as food and good 2 as cloth. So, let us stick to that, good 1 is food and good 2 is cloth. Let us take two bundles 2 comma 2 and 3 comma 3, what it means 2 units of food and 2 units of cloth, and it means 3 units of food and 3 units of Cloths. If we are talking about a person whose preference is just described by me, which one do you think he would prefer. He will prefer a 2 comma 2. 2 comma 2 why, because what he cares, not individual amount of food and individual amount of cloth, what he prefers, what he cares about, is the total sum, sum here is 4 and sum here is 6 and 4 is of course, less than 6, then 4 is less than 6, I can also write 4 is less than or equal to 6. This is not a wrong statement fine. So, what it means that 2 plus 2 is at least as preferred as. 3 comma 3. 3 comma 3 fine. Now let us look at it, does it satisfy all the assumptions, the three assumption, rationality assumption that we have described. Let us check for completeness, when we pick any bundle from this consumption set, we will be able to figure out, let us say if that bundle is x. From x we will get x 1 comma x 2. And we will be able to figure out x 1 plus x 2, and let us say if we are picking any other bundle y of course, what we will get y 1 comma y 2. And again we will be able to figure out y 1 plus y 2, and there are one of these three possibilities; either x 1 plus x 2 is greater than y 1 plus y 2 or it is less than y 1 plus y 2 or. Equals to. It is equal to. So, by going starting from here and if we go back, we will always be able to compare. So, it satisfies. Completeness. Completeness. How about reflexivity? Satisfy It satisfies x 1 plus x 2 is at least is greater than or equal to x 1 plus x 2, this is not wrong. It does not preclude the scenario when x 1 plus x 2 is equal to x 1 plus x 2. So, this is also satisfied, it means reflexivity is satisfied. Are you with me? And when we take three bundle x comma y comma z, when x 1 plus x 2 is greater than or equal to y 1 plus y 2, and let us say y 1 plus y 2 is greater than or equal to z 1 plus z 2 what we will be able to figure out. That x 1 plus x 2 is able to, is greater than or equal. z 1 plus z 2. z 1 plus z 2. So, what does the first one say, it says that. y is at least as good as y is at least as good as. x x, and the second one, it says z is at least as good as y. y So, by combining these two we should get z is at least as good as. x X and that is what we are getting from here. So, it satisfies transitivity. Transitivity. So, by our definition this person has rational preferences, or this person is rational, but can we call probably in real life, in day to day life. Such kind of a person would be called stupid or mad. So, of course, our definition of rationality is bit different from the definition of rationality that we use in every days language. They are not the same. So, what are the difference, what are the differences? can you think of the differences?. Sir, the completeness definition of rationality here does not match with the rationality there. Like if there we have seen that something is related to something in a, means one way it is then one way, but here it is defined in three ways. See, what you are saying let me put it little differently and in more general way, what we have is that when we say in everyday’s language that someone is rational, what we are talking about that the person has sound choice. And sound choice, from where it is coming. One can interpolate and say its coming from sound preferences and society has some definition of this soundness. When the preference is sound, society has some, you know not in an explicit manner, but implicitly society thinks that what kind of reference is sound preference fine. So and the second that this sound preference should lead to good judgment fine. What in economics say, its language in economics, here we do not care about the soundness of preferences, what we care here about this consistency, consistency and completeness. Although the example did not exhibit, but it say that in real life when a person will be called rational, even if his choice or his preference is not complete, but here. So, in some sense, the economics definition is narrow and in some sense it encompasses the more things. So, here it is, the focus is on the consistency and completeness and no emphasis on judgment yet. Of course, in economics also we focus on judgment, but not because of preferences. Remember the fourth building law. What was the fourth building law? Human behavior. So, that is where we are bringing the judgment. So, judgment is separate from the rationality of your preferences. While in our day-to-day life, we combine all these things in one. You understand this is the way these two are different, but roughly in most of the cases, they mean the very same thing. If we talk about a force, I can take a look, I took an example of a very weird person. Remember in economics there is no weird person or weird individual. Here we are not talking about why did he get such weird kind of preference in economics, we do not put any value judgment here about a person’s preferences, what we care about it, what we care about is, that it has to be consistent and complete. Consistent coming from transitivity. Fine, is it clear. So, whenever you are using this rational term, be careful about it, whether you are using it in economic sense, or you are using it in day to day sense, because they are not always the same.
Microeconomics	Lecture02_Resources_Wants_Scarcity.txt	Now, we have learned what do we mean by good, bad and services. So now, we can talk about resources, what do we mean by resources? See the thing is goods do not appear from thin air, you need to put some inputs to produce these goods like tv, it needs several kinds of inputs, it needs raw material, it needs labour, it needs intellectual resources, it needs entrepreneurial resources to produce it. So, whatever we need to produce our good we can call them broadly resources. So, let us look at the broad categories of resources and the first resource that comes to my mind is natural resources. What do we have as natural resources? One can of course write land, without land we would not have any agricultural goods, water. Nature also provides us with minerals. We should also add oil, wood and so on. Second broad category of resources that comes to my mind is labour. Now in labor we consider two different kinds of labour, one is physical and second is knowledge based or we give it a name called human capital. I will describe the term capital little later on. So, what do we mean by physical labour? Whenever we have any industry, we look at, we hire workers to work on different equipment to produce some output, that is what we mean by physical labour. And what is knowledge-based labour? That physical effort is not sufficient to produce something. The intellectual effort, the design of a product, or creating a blueprint of a product, these are knowledge-based. So, we tend to differentiate between physical labour and knowledge-based labour. Also, it is not a bad idea to include entrepreneurship as a form of knowledge-based labour. What is entrepreneurship? It is ability to organize all other factors of production to produce goods and services. Now, let us move to third kind of resources and that the name we give is manufactured resources. And broadly here what we have is capital, what do we mean by capital? All the inputs or factor of production had to be produced in the first place and they are used for further production. Let me talk about capital once again, like here look at land, water, mineral, oil, they are provided by nature. We are embodiment of labour, physical labour as well as knowledge-based labour. We convert our knowledge and thought into blueprints and design, but that is again pertaining to labour, but how about this pen that I am using here to write? It is also being used to produce some good, what is that good? The teaching that I am teaching you, we are participating in production of good called teaching, it would satisfy your intellectual need. So, here let us look at the resources that are being used to produce this particular good called teaching. Labour, physical effort of course, very little bit intellectual effort. Third, we have these LCD screen, pen. So, these are being used in production of this teaching. So, these are inputs, but these were not available in nature on their own, these were manufactured. So, these kinds of inputs are called manufactured inputs or better term is capital. They are fabricated by bringing some kind of natural resources, labour together. And these are used in production of some other goods and services. So, I hope by now resources should be clear to you. So now, let us look at the third term that we used in the definition; just to remind you, what was our definition of economics? That economics is the study of allocation of scarce resources to satisfy individual wants or desire. So, the term here is wants. Now, one can very well raise this question why are we talking about wants? Why not needs? So, let us pay attention to wants versus needs. Think about the difference between wants and need, what are the needs? Needs are goods that you must have in order to survive like food, basic clothing while wants are goods; that you must have in order to feel satisfied. So, keyword is whatever goods, in whichever quantity satisfy you, those are your wants. So, of course, if you look at these two basic things, needs and wants, needs are more fundamental than wants. You would prefer that we rather talk about needs than wants. Then why we are talking about wants in economics? The problem is the needs are very difficult to figure out. You may always claim that you are needier than you really are. Even though you do not need something you would say I need this, because it is plain simple statement you may express that you need this even though, it is not really that fundamental for your survival, but wants is very clearly, it is totally up to you. Whatever makes you satisfied, it is easier to observe because when you make decision when you go to the market or when you go anywhere you buy something, or you consume something it indicates that you wanted that particular item. So, of course, needs are more fundamental than wants, but wants are more easy to track. Needs are very-very difficult to track, just because you can always claim that you are needier than you really are. So, that is why we are going to talk about wants not needs. Now the next term is scarcity. The simple meaning of scarcity is shortage, lack, dearth. It implies, what does it imply? It implies that our wants not needs remember, our wants for goods are greater than the availability of limited resources to satisfy those wants. So, if we look at why do we have scarcity, because the simple fundamental reason that we have scarcity is that we have unlimited wants, we always want more. So, more is the keyword and this is typical human nature, in economics we are not talking about how we can control our desire, but rather than we are talking about how we make decisions. So, scarcity is there because we always want more and with limited resources available. In this universe, on this planet, we cannot have unlimited amounts of everything. So, that is why we have scarcity. And scarcity leads to choices, because when you do not have unlimited amount of everything, unlimited amount of resource to produce, unlimited amount of all the goods that you desire, you will have to make a choice, what to produce? In what quantity you should produce a particular good?
Microeconomics	Lecture12_Supply_and_Market_Supply.txt	What is supply? We have been talking about demand for quite some time, and when we talked about demand, what we meant a function of. Student: Price and quantity demanded. Lecturer: Function of price and quantity. Student: function of price Demanded or demanded as a function of market price what is the demand function? It is a function of? Student: One. market price, it gives quantity demanded as a function of market price. Now we are talking about not the consumer side, not the buyer side, but we are talking about producer side or seller side. Supply gives you the willingness to sell at a particular price. So, remember earlier I relate, what I talked about is, how marginal value relates to quantity demanded here we will introduce a concept called marginal cost, what is marginal cost? Student: same sir, increasing by one unit and. The cost to produce. Student: One more unit. Cost to produce one more unit. Cost to produce one more unit. So, again think about it, if your cost to produce is 5, again it is a made-up number, nothing sacrosanct about this number the cost to produce one unit is 5 rupees and you can sell it in the market for 10 rupees will you produce it, of course, you will produce it because by producing you can gain 5 rupees. Student: 5 rupees. On this unit, but if price to produce one additional unit is 5 rupees, and you can sell it in the market for 4 rupees will you produce it. Student: No. No, you will not because you will spend 5 rupees, but you will get only recover only 4 rupees, and you will incur a loss of one rupee; that is why you would not produce. So, there we learn demand is a downward sloping curve why demand is the downward sloping curve? Because diminishing marginal value as well availability of. Student: Alternatives. Alternatives. Can you make some comment about supply curve? Is it downward sloping it is fixed or it is upward sloping it is? Student: Upward sloping. It is upward sloping, all of you know its upward sloping, again why it is upward sloping. Student: Sir not diminishing, but because sir, because price increases, profits will increase for a. To let us look at let us look at, let us look at again concepts very similar to. Student: Diminishing. Diminishing marginal value and availability of alternatives. One that increasing marginal cost; I am not saying that marginal cost always increases, but most of the time it does increase. Marginal cost does increase for most of the range, like let us say it is about selling mango in the market you have a tree, probably getting the first mango from the tree would be quite easier because it will be on low lying branch, but as you want to get more and more mango you have to climb tree and it will be costly for you. So, cost would keep on increasing if you want to get one more mango so; that means, that marginal cost is increasing that is one. The second is again availability of alternative job, not alternative item right now it is about catching it is about grabbing a mango from a tree. Let us say by grabbing that mango you can make 5 rupees, you sell it in the market, and you get 5 rupees, but let us say you also know how to catch fish. You can go to a pond and start catching fish, probably you know it would be easier you know the effort probably, it will cost you 3 rupees to catch a fish and that will fetch you 10 rupees from the market. So, availability of alternative jobs. Let me elaborate it little more. Right now let us say market price is 5 rupees, again made up example market price is 5 rupees, and let us say you are willing to supply 5 units of mango, why because up to 5 units of mango your marginal cost is less than 5, but above 5 mangos your marginal cost is above 5 rupees, that is why you would not move from 5 mangos to 6 mango is it clear? But now let us say market price goes up from 5 to 6, what will happen to your willingness to supply? You will at least supply the same amount of mangoes, that you were supplying earlier and probably some more. Student: Ok. Fine, now second way to look at it that if market price was 5 rupees, let us say you were not willing to supply any mango because you are not very efficient in taking mangoes from tree, you do not know how to climb a tree, you are scared that you would fell down, you had hurt yourself. So, you are not interested in that; and what you typically do is that you catch fish and sell it in the market; but the price of mango starts climbing up, you would realize that it is beneficial for you to sell mangos rather than catching fish. So, that is the reason, because of these two reasons, increasing marginal cost and availability of alternative jobs mix supply curve an upward sloping curve. Is it clear, any doubt about it? So, it is upward again I am drawing a straight line, but not you know it is not necessary it can be something different, it can be like this, but what we what I mean to say is that supply curve is always going to be an upward sloping curve and the related to the marginal cost, if MC that is sort for marginal cost, it is less than P, you will sell that particular unit in the market and you will keep on selling till MC becomes equal to. Student: P. P, fine, one more thing I want to emphasize that I did not do in the demand side because concepts are very very much similar. So, you would learn. Now, here look at it, when we are drawing the supply curve, supply curve is always P on y axis and Q on x axis, we are talking about an upward sloping curve. But now let us draw another curve, MC marginal cost as a function of quantity and what we talked about earlier in the earlier slide? That increasing marginal cost if that is true how we can draw? We can draw like this that marginal cost is increasing as you are trying to sell more and more quantity in the market fine. Can we say that, can we find any relationship between this and this, are they related? Do not say that you know here it looks smaller, here it looks bigger. So, these are not the relations and I have deliberately drawn that, both are upward sloping that is very clear, but other than that. Student: Marginal cost must be more, less than this. Think little bit more, let me tell you that these two curves are the same, you draw MC versus Q and change this MC to P you will get this curve, how is it possible think about it. This is true to large degree later on we will find exception to this, but right now let us not get into the exceptions. See what is happening if MC is less than P, you will keep on selling of course, here assumption is that Q is a continuous variable, Q is a continuous variable, it is possible to sell fraction amount of this particular good. So, when till when you will keep on selling? Till MC becomes equal to P. So, that is what I am saying that here P is equal to MC. So, these two curves are the same curve, is it clear? If we are talking about just to revise the concept that we have learned, let us look at this concept in the demand context, what we have here is P and Q and here we have downward sloping curve. And here we have marginal value and Q it is a downward sloping curve, this curve and this curve, these two are the same curve same using the same concept, till when you will keep on buying? Till M v becomes equal to P is it clear? Continuing with the same; in the graph they are the same let us see again the demand part. In the graph they are the same, but how about remember when we write it as a mathematical formulation what do we write it? MC as a function of Q that is what we are writing. But here in context of marginal cost, we are writing marginal cost is a function of quantity, but when we are writing the supply function, how are we going to write? Quantity supplied is a function of P; when we are taking this equation to the graph we are putting MC on y axis and Q on x axis. But when we are taking the supply function when we are taking the supply function to the; you know graph making, we are reversing deliberately, you know because of our convention in economics, we are putting QS on x axis and P on y axis. So, when we draw the graph they are the same graph, but when we write the equation they are inverse of each other, is it clear? And how we are getting the inverse? Rather than changing the graph we are changing the axis. Remember the mathematical concept, just bit of digression y is equal to f x, is a function and if you want to figure out the inverse of this function, what is the inverse of this function? X as the function of y. So, instead of changing the function what we are changing here is the axis. Look at it that is what happening here, the axis are being changed. So, that is why these two are inverse of each other, when we talk about mathematical formulation, but when we talk about the graph, they are the same graph. Not in mathematics though because mathematics if you are drawing the inverse, the graph of inverse function it would be inverse, but in economics we have convention that quantity always goes on x axis, that is why we get the same graph. Is it clear? Now, we have already learned, you see that it is because the concepts are very similar to demand, we do not have to go into that much detail. What we have learned is that the supply function is an upward sloping function, while demand is a downward sloping function. Other thing that also you should always keep in mind that movement along curve and shift of the supply curve. When we are talking about the supply function as we talked about the demand function earlier, we are talking ceteris paribus, meaning that all other factors are held fixed or held constant and we are changing the price of this particular good and we are observing its impact on quantity supplied in the market. So, we are moving along the curve, but when we held the price of this good, the same and change other any other factor, we will learn pretty soon. What are those factors which impact the supply function? but we change those factors what do we get? At the same price we get either more or less of quantity supplied, and we do it for all the prices what we get is, that shift in supply function. Is it clear? So, let me say here this is the shift. These two we have to understand, we should not get confused between these two ends very very important. Now we have talked about individual supply curve, earlier what we did? We moved from individual supply curve to market supply curve, again we have to repeat the same process how can we get the market supply curve? We will horizontally add all the individual supply curve, and we will get the market supply curve. So, take an example for the person 1, first supplier it is 10 plus 2P, and for the second supplier let me just rewrite it, let me let us continue with this, ten plus 5 P, but I want to tell you whenever you do this, see when you are drawing the supply curve or demand curve, it is although the function is Q as a function of P. But when we draw what do we draw? P as a function of Q. So, many times in books or in many other places, you will see that supply function is not given as quantity supplied as a function of P, but P as a function of quantity supply, they are basically the same thing. Mathematically speaking they are inverse of each other, but in economics the terminology we interchangeably use, from context it should be clear that they are inverse of each other and you should adjust accordingly. So, now, you have these two supply function, can you get the market supply function? So, I leave it to you, you can get the market supply function on your own.
Microeconomics	Lecture80_Law_of_Diminishing_Marginal_Returns.txt	Now, we have learned about marginal product of labour and average product of labour. Now, let us talk about something called the law of diminishing marginal return. In our example, we started with a production function where we had two inputs capital and labour and Q output is given as a function of K and L. And what we said that we talk about production in one variable and we explained it in two ways; either really that one way to look at it either that capital is fixed or second way to look at is that capital is absent that we are not able to vary capital for whatever reason and one reason that I gave you was that let we are talking about short-run fine. So, now, still let us keep the capital fixed and let us keep on increasing the L. What would happen to the MPL; Marginal Product of Labour? Decreasing. Not necessarily. It will increase. Look at it look at it is increasing and then it starts decreasing. It would increase So, we do not know what would really this is just an example; it may so, happen that it would start decreasing right in the beginning, but that is. That does not happen in most of the cases, but what is almost certain and we take it as law that if we keep on increasing the L, if we keep on increasing the L then eventually not I am saying right from the beginning eventually that MPL will start decreasing. Yes sir. So, what we can say that, if the quantity of quantity amount of one input is kept on increasing, if the amount of one input is kept on increasing while keeping the amount of all others; all other inputs fixed. The increment in the output, not the total output; the increment in the output increment in the output will eventually start decreasing. Is it clear? So, pay attention here, what I am saying not the output, but increment in the output. In other word if we keep on increasing let us say in this example we have only two factors of production capital and labour and let us say that we keep the capital fixed and we keep on increasing the labour. So, eventually the increment in the output with respect to labour what this is what basically MPL. MPL eventually will start decreasing fine is it clear? Sir one question. Yes. If this diminishing marginal product diminishing rate of…diminishing marginal returns law. The law of diminishing marginal return. Returns is only valid for labour. No, for any that is why when I gave you the definition what did I say if the quantity of one input is kept on increasing. So, I am not saying it is true for only this production function; take any production function where you may have more than two factors of production and you keep the value of all the levels of all the factors of production fixed and keep on increasing just one input eventually the incremental output would start decreasing. Or in other words, the marginal product with respect to that input will start decreasing eventually not necessarily. See what is the reason take an example of this labour and capital; now you have a lab where you have 5 computers; Let say you have 0 labour in the beginning no production now you bring one worker one software engineer and then of course, you will have some output. So, output will start increasing if you bring 2; probably those 2 can collaborate together and rate of increase would even go up. So, output may start increasing at increasing rate because I am just making it happen story ok; let me complete. And then you add on more workers probably at 5 or may be let us say they can do two shift. So, 10 people can use 5 computers or may be 3 shift, 15 people can use 5 computer. So, it may keep on increasing at increasing rate, but eventually may be at 5, may be at 10, may be at 15 may be at 12 we do not know that here I am not making any comment about it, but eventually it will start decreasing why? Because other inputs are fixed why we are crowding out one particular input; so, that input would not be able to use other inputs efficiently. And that is why the marginal product with respect to that input will eventually start decreasing; you had a question. No sir, eventually. I answered. Eventually, Actually I was putting an example like if there were 4 labourers like Facebook is a company, he has 4 experts; it has 4 experts in computing now they have working on 4 computers right now if they keep on adding CPUs and adding memory and adding capital then their output would certainly increased. May increase, but eventually adding one more unit of CPU would not help any more ok. So, eventually I am not making any comment about what would happen in the middle in between , but eventually it would start decreasing not output necessarily may be in some cases output will also start decreasing, but this statement is not this law is not about decrease in output; this statement is about decrease in incremental output. This statement is about rate of change in output with respect to one particular input would start decreasing. So, in this graph this is what we are talking about if you pay attention here this is what we are talking about; that look at it this graph has already become two. So, here it is increasing, but at this point of be beyond this point; the marginal product of labour starts decreasing. I am not talking about this point; I am not talking about that output starts decreasing beyond this. I am talking about the marginal product of labour starts decreasing beyond this or beyond this point certain point. Fine is it clear? Yes sir. Now, what happens of course the level, let us say let us say this is the MPL of course, I am using basically I am using labour as an example for an input, you can have a different input. And here you have MPL and of course, here you have kept the K equal to K naught. What will happen if you increase K to K plus 1? Let me write it, here what will happen to MPL? Again, this is hypothesis I am saying probably. Increase. It will increase, maybe this point will shift here; maybe it you would have something like this or maybe you will have something like this or maybe you will have something like this. So, we cannot say what we are talking about that keep we are not jumping from this when we are making this statement, or we are when we are talking about this law; we are not jumping from this MPL curve to this MPL curve; we are keeping the other inputs fixed. So, eventually, it starts decreasing here, it starts decreasing here that is what we are talking about fine is it clear?
Microeconomics	Lecture93_Cost_Minimization.txt	We have already talked about minimizing the cost. So, the mathematical problem is minimize. R k plus. R k plus w L minimized with respect to what? Output. Not with respect to output, output is already fixed; what I said come back to this. State of input. We said that these are the three things. Maximize profit, how many units of output to produce, we have already decided here right now, that Q naught units of output to produce what we are interested in? How to produce this Q naught? And there are several ways to produce this Q naught. So, this is given, what we have is F of K comma L should be equal to Q naught we have to produce. What we need to do here is how can we minimize this. We have to minimize it with respect to K and L by changing K and L, we can change the cost of production, but we cannot change K and L arbitrarily if we change K L and arbitrarily we would not be able to produce Q naught. Q naught will be move we will move out from isoquant. We will move out from the isoquant, either we will produce more, or we will produce less may be the same, but the chances are very little. So, what we have is, the idea here is that produce at least Q naught. Let us say if this is possible to produce Q naught more than Q naught and it minimizes your cost, then you are fine you do not have any problem what you are interested in is that at least you should have Q naught of output and you should and you should be able to the associated cost, but we will not use this, we will talk about these considerations later right. Now we will take it that we are here, that we need to produce exactly Q naught such that r k plus w L is; Minimized. Minimized; how can we do that forget maths we will do it first graphically, look at it here, what is r k plus w L? It is a line. Line straight line here what we have is capital and here what we have is labour. So, what we can do? We can let us say is equal to C naught, we take anywhere C naught is any constant. Constant. What would we get? A line. We will get a line and what is going to be the slope of this? Minus w by r. Minus w by r The slope is going to be minus w by r and how much is this? C naught upon r. C naught upon r, fine and if you use any combination of capital and labour from this line the cost is going to be. C naught. C naught instead of taking C naught, what we can do? We can take c one where c one is greater than C naught, we will get another line that is parallel to the previous line and, what are these can I call this line as an iso-cost line the cost is same. So, what we can do is, we can generate iso-cost map and on the same graph we can draw because this will give us isoquant this gives us isoquant. So, we can draw isoquant here also, and let us say this is the isoquant. Now, the idea is very clear. If you look at the isocost map if you move in this direction what is happening? Cost is reducing. Cost is decreasing or reducing and what is our aim? Our aim is to produce at least Q naught amount, same logic. Let us say this is the isoquant and this is the isocost of course, these two lines are not parallel, but does not matter this is different here we cannot have cost minimization at this point why? Because we can move another isoquant. Because we can move we can move in this direction and still able to produce Q naught at the lower. Cost. Cost, so, what we will do? We will keep on moving in this direction such that, that one of the iso-cost line becomes tangent to this particular isoquant and it is isoquant here. Now it is no longer possible to reduce the cost why if we move in this direction what will happen? Cost will reduce, but we would not be able to produce Q naught amount of output we would not be able to produce Q naught amount of output. So, this condition that we have will be violated ok. So, we are solving some other problem, not the problem that we have discussed.
Microeconomics	Lecture83_Decreasing_MRTS.txt	Now, we are going to talk about diminishing marginal rate of technical substitution or diminishing technical rate of substitution, technical rate of substitution is just the another name of marginal rate of technical substitution. So, again just what is MRTS just to revise it, what is MRTS? What does it major? Slope of isoquant. It measures the slope of isoquant, but that is very mathematical answer what does it mean in economic sense. That how much amount you have to substitute if you of capital if you add one more unit of labor. to get the same out. So, broadly speaking it talk about the marginal rate of technical substitution is nothing but rate at which one input can be substituted for the other input while keeping the output fixed. We have to be on the same isoquant ok. And when we are talking about capital and labor as we had done in the past, this is the amount of capital that needs to be decreased to have the same output when we increase labor by. One unit. One unit. One unit. That is how we have defined. So now, the thing is if we keep on increasing the labor. So, whenever we increase labor, what does it mean ? That here on this graph this is one isoquant let say we are producing Q naught and we are increasing L it means we are moving in this direction. And on this isoquant, we are moving along this curve ok. So, whenever we increase labor we have to decrease the amount of capital to obtain the same amount of output. And if just we keep on increasing labor without decreasing the capital, what will happen? Output will increase if marginal productivity of labor is positive ok. And it will decrease if marginal productivity of labor is negative ok. So, unless unless we have marginal productivity of labor equal to 0 and we want to we we would not beyond the same isoquant if we increase the labor. And when marginal productivity of labor is 0, how would this isoquant look like? At that point it should be horizontal as we get in the case of perfect compliment when we are talking about this horizontal. So, basically, we have to decrease the amount of capital. So, what do you think? What happens to the amount of capital, that we need to decrease whenever we increase labor by 1 unit? And we want to be on the same isoquant, what happens to this amount of capital ? That needs to be decreased in order to be on same isoquant. It. Should it be should it increase or should it decrease. Decrease. Why should it decrease? Why should it decrease ? Of course, this is what diminishing marginal rate of technical substitution, what does it say ? That when we are on the same isoquant and we keep on increasing L ok. We keep on increasing on L. So, then respective decrease in capital to maintain the same level of production is decreasing so, delta k that is required will decrease as we move in this direction ok. Just look at it here, here we have let say this is roughly saying here we have L naught, here we have L naught plus 1, here we have L naught plus 2. Let us take this and let us take one more fine. So, earlier this is the delta K in the next turn this is smaller. So, if this is the set of course, it is specific to the shape, it is specific to the shape. So, what we are talking about remember let us think about it MPL is positive typically we take it as positive it means if we keep the capital fixed and increase the labor what will happen. Output will. Output will increase and MPK is also positive, what will happen? Q will increase whenever we keep the labor fix and increase the capital fine. Now that is why we we get this particular shape, isn’t it? This particular shape of isoquant we obtain because what we take MPL is greater than 0 and MPK is greater than 0; it means MRTS the way we have defined is negative. So, we will always get a downward slopping isoquant that is also the reason is also because we have talked about monotonicity earlier. So, this is the shape we get fine, but what happens as L goes on increasing MPK also increases what is MPK marginal product of. Labor. Capital. Think about is the scenario is that of course, we have now again whenever we are talking about MPK we are fixing at 2 particular label. So, let us look at it we have label L 1 and label L naught and L 1 and L 1 is greater than L naught. We have MPK marginal productivity of labor at L is equal to L naught and we have marginal product of capital at L is equal to L 1. And what happens that this one is greater than typically this one is greater than this one why? Can you think of a reason? So, by example it is very easy to understand So, tell me one example. like sir if you have 7 computers and 7 laborers. Now if one more labor come like 8 laborer and 7 computers now if you increase the one computer more it is productivity would increase more rather than if you. Decreasing. Ha if you have 6 product sense if we have 6 computers and a 8 laborers. is it clear what we have here is MPL delta L. Plus MPK delta K this should be equal to 0 on the same isoquant, is it clear? Now what happens as L increases as L increases, what happens to MPL? Decreases. We do not know all the time we do not know we do not know what happens all the time ok, it may increase it may decrease as we have talked about earlier fine ok so, but how about here MPK? It would increase. MPK typically increases. So, basically what is happening the capital is becoming more and more productive, capital as with more labor capital is becoming more and more productive. So, small amount you take out and you get equivalent reduction because more productive goes in the both direction and that is why; marginal rate of technical substitution diminishes as L increases. Or in other word it becomes because it becomes it tends towards it becomes more horizontal as L keeps on increasing, and in the opposite direction it tends to become vertical, but see one exception is here one exception is here, where we have both the factor of production as compliment there it is not applied there it is not applied. So, this is a property of convexity this is the property of. Convexity. Convexity that we have talked about earlier ok. So, when production technology is convex what do we get? That marginal rate of technical substitution diminishes as the first input amount of first input increases. Increases. Is it clear? Now let us talk about elasticity of substitution ok. What is elasticity of substitution? Sir can you repeat the last sentence once more I can note that down. Which one? About the MPL and MPK, so we can write now. Here in this case? Yes sir. As L increases MPK increases typically. Yes sir. So, but it goes in the MPK is increasing at that point it is not marginal product of labor is not just in one particular direction it is in the both direction. So, to compensate for the same you know to know to just because labor has increased. So, output will increase. So, what we do we need we need to take out little bit of we need to take out some capital. So, that we come back to the same level of production so MPK is increasing. So, if we take little bit of capital, what will happen? We will come back to the same level of production as MPK goes on increasing we need to take less and less amount of capital out to come back to the same level of production, and that is why; we get diminishing marginal rate of technical substitution is it clear fine? Ok.
Microeconomics	Lecture04_Individual.txt	Now, the last topic for today’s lecture is individual. You may be wondering why I am talking about individuals. I am an individual, you are an individual, but here in economics individual is much broader than you I. Here, individual means a unitary agent making decisions. So, just think of your family, when your parents are making a decision for your household in that case, when they are acting as one unit they will be considered as the individual unit in economics. So, typically you will see households making the decision. Firm; firms typically consist of many individuals, but most of the time they make decision as one unit, when we are talking about internal structure of firm then of course, we have to focus on different individual making that firm, because we want to study their actions, but when we want to study the interaction between these two firm, here we can safely assume that firm is acting as one unit. So, we talked about firm as an individual. Sometimes even state, let us say government of India decides to purchase fighter planes from some European country France or Britain. There of course we are not talking, we are not focusing on the decision-making process that government of India went through. Some of people might have supported one decision, one choice, some of them might have supported some other choice, but if we are studying that then we cannot take government as one unitary agent, but when we are talking about the government of India, interacting with the firm selling fighter planes then I can say government of India is unitary agent. So, we will take it as individual. So, you see we make a lot of simplification. In the next class I will talk more about simplification and abstraction. I just want to focus two important characteristics of this economic individual; One is rationality, and second is self-interest. What is rationality? Two ways to look at it; one through method and second through result. If we look at it through method then the decisions are made based on some well thought reasoning rather than based on emotions, habit, or reaction. So, if we make decision based on reasoning then we will say that the person is being rational. And second is based through using result. So, here we can say action that leads to desired result is rational action, but here one thing you should pay attention to that, these two are not the same. They are different. Let us take an example, let us take an example where it would become clear that the definition of rationality using method is different from definition of the rationality using result concept. So, let us say that there were 2 thieves named, just for fun sake, you can name them Ranga and Billa. And they were caught robbing a bank, and Inspector Vijay arrested them, but the problem is that Inspector Vijay does not have enough evidence to prosecute both Ranga and Billa for bank robbing. The maximum that Vijay can do is to prosecute them for breaking the lock and that is let us, say is a minor crime in comparison to robbing the bank. So, what Vijay can do. Vijay can separate them into 2 different cell and offer them an incentive, and what is incentive? we will get into the definition in the next lecture. But let us say that Vijay can say that to Ranga that if you confess and Billa does not confess, then you will get to walk free, because Vijay will use that evidence to get to convict Billa; and Vijay can offer the same deal to Billa, if Billa confesses Billa gets to walk free, but Ranga gets heavy punishment and if they both confess then both of them get a punishment that is higher than the punishment for a minor crime, but not as much as when one person only confesses. So, let me write the payoff here, and I will explain what does it mean? If both of them do not confess, it means then Vijay cannot prove that they were trying to rob a bank. Vijay can prosecute them only for breaking the lock and let us say the punishment is one year in jail, both of them get one year in jail. And if both of them confess then both of them get five years in jail, but here is the catch, if only one of them confess then what happens that the person who confesses gets to walk free and the other person gets 10 years in jail. So, I hope now this story is clear to you. So now, let us look at it, if we pay attention to this result, what should they do? They both should not confess. Both of them should not confess, but now let us look at the process, let us pay attention to Ranga. Let us say this is Ranga, and this side we have Billa, and the first payoff is for Ranga and second payoff in any box is for Billa. So, let us say Ranga is thinking now. Ranga may think what Billa may do. Let us say one option is that Billa is going to confess, then what should Ranga do? Let us say, Billa confesses by confessing Ranga would get 5 years, and by not confessing he would get 10 years. So, he is better off by confessing. So, he is going to confess. If he thinks that Billa is going to confess, let us look at the Billa’s other action, Billa is not planning to confess and Ranga is thinking about this. So, Ranga thinks that Billa is not going to confess. So, if I confess I am going to get 0 here while if I also refuse to confess I will get one year in jail, better off by confessing. So, Ranga is going to confess. So, no matter what Billa does, Ranga is always better off by confessing, and by the same logic Billa would go through the same logic, and Billa would figure out that he no matter what Ranga does he would be better off by confessing. So, he is also going to confess. So, both of them would confess and they would both get 5 years in jail rather than getting one year in jail. So, the method sometime may not lead to the best result, but in economics, we are going to focus on the method rather than the result. So, in the next class, we are going to start with self-interest and then we will talk about the techniques that we use in economics. Thank you.
Microeconomics	Lecture70_Slutsky_Equation.txt	Now, what can we do, we have already talked about substitution effect and income effect in graphical sense. So, we have already talked about you know, this is basically we are going to get the Slutsky equation. An equation that gives relationship between compensated demand and Marshallian demand. So, we have already done it qualitatively, not quantitatively ok. So, we have already looked at it through graphs, but now we are going to do it mathematically. So, what we can do here because we are talking about varying P1. How do we get the x 1, x 1 is quantity demanded, either in Marshallian sense or in compensated sense and to get generate the demand function what do we need? We need to get quantity demanded as function of P 1. So, basically P 1 is changing, and we are studying its effect on quantity demanded. So, here; of course, we will take P2, U not you know everything. Constant Constant U not constant in this case, but U not here will, here u will change the utility achieved will change, but basically, we are varying P 1. And if we differentiate both side with respect to P1 what do we get? Remember here P1, U not is given; that is given to the system, it’s you know you P changing P 1 will not change U not, but changing P 1 will change the expenditure to achieve the u naught. Is it clear. So, changing P 1 will affect the quantity demanded in direct way and here in. Indirect Indirect way. So, how can we write, this is going to be, this is the direct effect and also what we will have here is. Indirect effect. Di basically this is I ok. With respect to the third argument and this is going to be. dP 1. With respect to. P 1 P 1. Fine, and how about here, this is what we will get of course, P 1 will not change P 2 and P 1 will also not change U not Fine and here rather than using I, what we are doing basically here is we have P 1 comma P 2 U not, is it clear ok. Now if you pay attention what is this. This is the optimal level of expenditure or minimum level of expenditure to reach, to have at least U not level of. Utility. Utility. So, basically what it is; of course, this is not perfectly correct, but we haven’t discussed that much of mathematics in this class. So, I am taking a kind of, you know that doesn’t look completely right, but what this is basically P 1 x 1 plus P 2 x 2. Or here it is. This is what the total expenditure is, and this is not for any amount, this is for the optimal amount. So, and how did we get this of course, from the minimization problem that I discussed earlier. So, if I differentiate e with respect to P 1 what will happen. This is, let me tell you, again this is not perfect way, but this is going to be equal to x 1 H. Of course, you can say that x 2 is also a function of P 1. P 1. But at optimal level it does not matter ok, that is what its little bit advance ok, but not that advanced. You can get this using the equation and that will be your one of the homework problem ok. Fine, you can get it from here. And this we already know, this we already know of course, P 1 P 2 and here we have u naught. This is we already know is equal to x 1 M P 1 P 2 e of P 1 P 2 u not fine. So, we can put it back there what do we get ? dx 1 M del, this is partial derivative of x 1 with respect to P 1, what is x 1? Its Marshallian demand. So, what we are trying to get here is, the slope of Marshallian demand function with respect to P 1. P 1. What is it equal to? x 1 M, this is x 1 M and this is the optimal amount, I am writing in shortcut. This is the Slutsky equation, this is called Slutsky equation. We will spend some time talking about what does it mean. Although we have already studied, but again it will be a revision math. Is clear to you, how we got this. So, I can rearrange it, I can rearrange it what I can write this is, this has to be equal to and what does this represent? This is substitution effect. Fine? What is substitution effect, what we are doing. We are changing P 1 here and we are studying its effect on x 1 M. How do we get the substitution effect, that we change the P 1, but we do not change the utility level, we remain on the same utility level? So, this represents x 1 H represents, you know its compensated demand in the sense that utility remains the same. So, this is giving us substitution effect. And this term is giving us income effect. Let us spend little more time and let us look at, let us pause this income effect side, x 1 M is a non-negative number ok, it is quantity demanded, it cannot be negative, quantity demanded cannot be negative. And what is this? This we have already studied if it is greater than zero then it is. Normal good. Normal good and if it is less than zero. Inferior good. It is inferior good. Fine. So, if P 1 goes up. If P 1 goes up, this we know this is so, we are certain about, because of convexity of the preferences, this is shaped like this. So, if it is rotation P 1 is increasing, what is happening if P 1 increases, then it will rotate like this. Budget curve will become steeper. Because what is the slope of budget curve minus P 1 divided by P 2. So, if P 1 goes up it will become steeper and if it becomes steeper, because this particular shape, the consumption of good one even in the compensated sense would come down. So, P 1 goes up, this is negative, as P 1 is increasing x 1 H is decreasing. Now, let us look at this part x 1 M dx 1 M del x 1 M with partial derivative of x 1 M with respect to i. What is happening here? This is negative, this is positive or non-negative and what is this for normal good, for normal good what is this, for normal good this is positive. So, overall, this is negative. So, for normal good substitution effect is negative and income effect is. Negative. Negative. We have already learned this, this is just a repetition of the same fact and how about inferior good, this is for normal good. P goes up, just we have already established this is negative and minus x 1 M this is positive. Because this is negative, this is positive, and this is. Negative. Negative. So, negative positive and this has two possibility that either you get minus or. Plus. Plus if you get minus fine, but if you get plus. Giffen good. Then you get Giffen good. So, one requirement for Giffen good is. Inferior good. That the good has to be inferior, the second requirement is that income effect has to be large. Large. Sir can you explain Giffen good. Giffen good is a kind of good. So, now, what is happening, if it is plus then what is happening P 1 is going up and Marshallian demand of that good is also increasing. So, here demand curve is an upward-sloping curve. Why it is happening let us think about it substitution, we have already seen, substitution effect is always if price goes up, compensated demand would definitely go down. Now, we have to look at the income effect. Income we as already we discussed that income it is not necessary that when a income goes up you consume more of a particular good. One example could be that you know potato example that I gave you earlier, that income goes up what would happen? You will decrease the amount of potato that you would consume, because potato people, people consume potato, because they do not have enough money, they will probably substitute it by meat or some similar product or milk ok. So, income goes up consumption of a good may come down. Yes sir. Ok. Fine. So, here it can be, it can move in any direction, either negative direction or positive direction and for inferior good income effect is, price goes up what would happen that the purchasing power. Comes down. Comes down, purchasing power comes down, it means real income is coming down, but that is why you will consume more of that good, because if your income is coming down you can no longer afford milk, mutton, or some other products. So, you have, you will have to consume. Potato More of potato. So, that is what is happening here. So, now, the scenario here is, that for normal good that we have figured out that substitution effect and income effect they work in the same direction, but for inferior good they work in the opposite direction. So, there is a theoretical possibility that for inferior good that not only, you know for that that income effect is larger than substitution effect. And in that case what would happen, the price would go up and consumption of that good will also go up. And that sort of goods are called Giffen goods. It is very difficult to get Giffen goods in the real life, because the condition that income effect has to be large. Large. And it is difficult to have large income effect, because you know you do not spend really significant amount of income on one particular good. You distribute your income over a large number of goods. So, that is why it’s difficult to get Giffen good. It’s clear, Slutsky equation is clear, and substitution effect an income effect with help of substitute Slutsky equation is also clear. So, we have done it using graph, graphs and also mathematically.
Microeconomics	Lecture47_Indifference_Set.txt	Now, we talked about from preferences to, preference to utility function and what we are going to do you can say either from preferences or from utility function we are going to talk about indifference curve or indifference set that is what we are going to talk about it. So, remember when we talked about completeness and then we learned about one of if your preference satisfies completeness then one of these three statements is true. And what are those statements? That if we pick any x y in the consumption set then we should be able to say, one: x is strictly preferred over y or y is strictly preferred over x or you are indifferent between x and y. So, here we are we have already learned about indifference at you are indifferent between these two bundles these two consumption bundles. You do not distinguish between, of course so far, we are not worried about monetary consideration or any other thing, we are not talking about preferences over feasibility set, we are talking about preferences over consumption set. So, of course, we are not worried about affordability, we are not worried about availability, we are not worried about time constraints, we are talking about these things independent of our constraints. It is like that neither x you can also think in this way, neither x cost anything nor y cost anything, you are not worried about that at all. So, we have already talked about indifference. So, what we can do if we take x? Then let us say again come back to our two-dimensional world and it is just for illustration and here we have good 1, here we have good 2 and x is x 1, x 2. This bundle will partition the consumption set into 3 mutually exclusive sets; and what do I mean when I say 3 mutually exclusive sets? They do not have any element in common. They do not have any element in. Common. Common and they also have other than this mutually exclusivity they have one more property. That they completely. Cover. Cover the entire consumption set. So, that is why it is a partition. So, what this is doing? This is partitioning x into 3 mutually exclusive sets which completely cover the consumption set. First, I can talk about this a set. And what is this set mean? Where all the elements are. Both. Are prefer, are strictly preferred to x. Take any element from this set and what would you get that element you would strictly prefer over x. So, this is called strictly preferred to set fine. And then second would be this symbol is nothing, but the reverse of this single symbol and what does this mean? This is worse than take any element in this set we can call it worse than set. Of course, this is not a very good name, but just to understand that if we take any element y, y that belongs to this set what would we get that y, you prefer x strictly to in comparison to y. This is what you will get. And the third is, of course, this is indifferent set. And here what will you get? Take any element z in this indifference set and what would you get; that you are indifferent between x and z, is it clear, fine? Just quickly we should also although not very relevant, but we can also do one more thing combine this set and this set, this is set number 1, this is set number 2 and this is set number 3. If we combine the elements of sets 1 and 3. What would we get? Another set. When we combine the elements of two different sets what we get? We get another set, that is the union of the earlier two sets. And what would be the property of that set? More prefer The property of this set would be that you take any element let us say here W belonging to. And what is this? Again, let me just write it. This is nothing but intersection of these two sets. And what we can call this set? At least as good as set or at least as preferred as set, so at least as good as set, and similarly we can combine 2 and 3 what will we get? Atmost When we take any element W in this the new set this is at most as good as x. And of course, how do we get this? So, I cannot emphasize enough role of mathematics in economics, you know math is extensively used to understand the economic concept in economic fashion. I am not saying that if you do not use math you would not be able to learn economics of course, you would be able to learn economics, but learning would not be economical in the sense that to describe the same thing that you can describe in once with small mathematical notations, you will have to write half page or one page or two pages long description to be precise. And so, what mathematics does? It brings conciseness and precision to the economic theory and that is why we are using mathematics extensively and it helps us avoid all the confusion what we mean when we say something in economics. So, it is part of the economics learning that you learn mathematics, basic of mathematics. So, we have done the partition and that is really nice what we got from preferences to indifference curve. Why I am saying, why I am ignoring all other sets? Why I am ignoring all other set up? Why I am not giving not describing preferences in terms of a strictly preferred to set or worse than set? Why I am saying that your whole preferences can be described in terms of indifference set. Because what you can do, let us say what we did we just picked x, we can pick y, we can pick z, we can pick, and so on. And with x we will get one indifference set, with y we will get another indifference set, with z we will get another indifference set and the whole consumption set can be described as the union of these in different sets, is it clear; and so on. And this is very nice mathematics is very nice, its concise, its precise, but it is hard to understand also it would be really nice if we can express these concepts graphically, graph is lot easier to understand. But the problem with graphs is that we cannot have graphs if our consumption set is more than three dimensional, at most we go can go up to three good world and that is what we will do. But I already told you that most of the time two good world is good enough for our problem. So, let us learn the same thing using graph. Let us go back to the example that I gave you earlier I talked about a preference of a person well who had some different sort of preference what we said that, he prefers x, he says that x is at least as good as y for him if x i, summation of x i or in this case because we are talking about two dimensional world it is just. x 1 plus x 2. x 1 plus x 2 is less than or equal to y 1 plus y 2. Now, what we can do, from here we can figure out let us look at it, we can figure out that y is at least as preferred to x if y 1 plus y 2 is less than or equal to x 1 plus x 2 fine, and if we combine these two if both of these two are true then what do we get? A person is indifferent between x and y, if y 1 and of course, of course, let me write it first that if x 1 plus x 2 is equal to y 1 plus y 2, is it clear. Now, let me also say that if for that person if this statement is true then x is at least as preferred as y. So, what we are basically talking about not just if, but if and only if, and if and only if is written as iff in short. So, let me put one more f fine. So, what we are saying, it can be described the indifference curve in this particular problem what would be the indifference curve or indifference at forget about, I have not talked about curve yet. So, let us talk about indifference set. Can we describe the indifference set in this particular case? How can we describe? What can we say about indifference curve? Fine, it would be more basic property of this set. You remember, how do we describe a set? If you try to remember what you have learned in class 9th and 10th because I believe set is these days they introduced set theory in class 9th, 10th. So, how do you describe a set? It is a collection of. Collection of, that is the description of set, that it is a collection of objects, any random collection of objects would be a set. But the two way we describe it, write it, one is that we enumerate all the elements of that set or second, we give a property that is satisfied by all the elements of that set. There are two ways to. So, can we give any property for this set? x 1 plus x 2 is equal to constant, we can say, we can write here that indifference set is made of x which is equal to x 1 comma x 2, such that x 1 plus x 2 is equal to constant k it can be anything in any number any real number and x belongs to the consumption set, fine, is it clear. Yes. This part is also important because if you do not, what would happen let us say k is equal to five then you may take x 1 is equal to 8 and x 2 is equal to minus 3. But that is not in the consumption set, so we will not talk about that particular bundle.
Microeconomics	Lecture37_Consumption_Set.txt	Ok. So, we have been talking about consumer theory, continued and we have talked about 4 building blocks, let me just revise those blocks. The first block is consumption set ok, the first block is consumption set or choice set fine. The second building block is feasible set and when we have just the monetary constraint then feasible set can be given the other name that is the budget set and third building block that we are going to focus our lecture today although I will talk about little bit about consumption and choice set, but mainly I will focus about preferences. And the fourth block is an assumption about human behavior just as recap here the focus is on conceiving, can you think about a bundle. If you think about a bundle, consumption bundle then that bundle should be a part of your consumption set. So, the idea is that you should be able to conceive, how about here the idea is that you should be able to achieve or you should be able to afford and preferences I am not going to talk about now, right now. Because the focus will be on preferences and how about this assumption, human behavior it is the human behavior that are individual given a chance pick the highest ranked bundle, highest ranked affordable bundle. So, what is so special about this assumption one can very well say that another assumption can be. Let us say for your father that he does not pick the bundle that he prefers most. He picks up a bundle that his son prefers or his daughter prefers that can be another assumption should, but we are making very very explicit, that individual picks up a bundle that is affordable and ranked highest among all the affordable bundles according to his own choice, his own preferences although we have not talked about preferences, not because someone else has ranked it in this way. So, how can we take your, but you see in real life we experience and we observe where a father does something for his son that may not be, you know, that may not be most preferred for himself, but still he does it. So, how can we explain this, we will be able to take care of such problem using that father has a special kind of preference that father gives weightage fathers preference gives weightage to some preference. But, we will not tinker with this assumption we will go with this assumption that a person picks up highest ranked bundle among the most among the affordable bundles. But we will not tinker with this assumption, but it is not limiting as I told you it is not limiting that if you know other problems most of the time can be accommodated using changing preferences, but even before we start talking about preferences, little bit of time I want to devote on consumption bundle. And here what did we say that any bundle that you can conceive would be an element in this consumption set. Let me write it here consumption set rather than consumption bundle. Any bundle that you can conceive should be an element in your consumption set that is the basic thing. So, now just to understand I am not saying that a consumption set should be only two dimensional, it will be 2 dimensional when you are talking about only 2 goods. When you are talking about n goods you will have n dimensional consumption set. So, few things I want to talk about this consumption set and I will start with a 2 good world. So, of course, we can describe it in on this paper, let us say on x axis we give amount of good 1 and on y axis, we give amount of good 2. Can we have this zone, let me can we have this is a zone 4, this is 1, this is 2, this is 3 can we have zone 2, 3 and 4 in our consumption bundle. No sir. Why? Consumption cannot be negative, very good point consumption cannot be negative. So, the consumption set if in the 2-dimensional world should contain only Zone 1. 1, zone 1. Or this is what positive orthant, positive part when we are talking about n-dimensional world then we have to say positive orthant and what does it mean that x i and x i is what ith good. Let us say let me just spend few moment with the notation, let us say now we are talking about n-dimensional consumption set, it means we have n goods available in the market and we are talking about the bundle that we can conceive in n dimensional world. So, let us say there is a bundle x what does it mean a bundle of course, would contain amount of all the available goods and. So, it is denoted by let us say x 1, x 2 and 2 up to x n, in this special case n is equal to 2 , but here I am talking about the general case. So, positive orthant means that any x i has to be greater than or equal to 0, consumption of a good cannot be negative. Sometimes people erroneously say how about when one of the goods is pollution, then I want to remind you that pollution by look at the definition that we describe right in the beginning of these lectures that pollution according to those definitions’ pollution is not a good it is a bad, negative of a pollution is good. So, you can always transform a problem, if you have to deal with pollution what you will define as a good negative of pollution fine is it clear. So, it is not very limiting that is one point.
Microeconomics	Lecture30_Incidence_of_Tax.txt	Let us look at what you are talking about incidence of tax incidence of tax. What is incidence of tax is simply, its economic jargon to say who pays the tax. So, we can talk about it in two different sense one in legal sense or statutory sense and second we can talk about in economic or real sense. Incidence of tax is very simple when we are talking about the legal scenario the statutory scenario. What we say simply is the agent in our case buyer or seller legally responsible to pay the tax. In legal sense he pays the tax it is very simple no definition he pays the tax. But what happens in the economics sense. The agent who bears the actual burden of the tax and these two are different. Here just we saw in this particular case we are talking about whether it is imposed on buyer or on seller. The tax would be shared by both of them let us look at it just for example. Earlier they were buying and selling 4 units at price of 6. 6. 6 unit per unit of good. Now, after the imposition of tax whether it was imposed on seller or on buyer that is immaterial what happen? Seller in the new scenario seller gets 5 unit while buyer gets. Buyer has to. Buyer has to pay. 7 7 unit. 7 unit. So, who is paying the tax? Seller buyer, buyer. Buyer or seller or both. Both. Both. See, now what is happening now 3 units are being bought and sold in the market, 3 units are being bought and sold in the market fine and Earlier sellers were getting 6 unit for one good one quantity of good. Now, how much seller is getting? 5. 5. So, there is decrease one unit per quantity seller is no longer getting 6 seller is getting 5 per unit. Earlier buyer was paying 6 per unit now buyer is paying seven per unit. So, buyer has to pay one unit more and seller receives one unit less and this, the difference of two unit that goes to the government. So, in this case I would say buyers and sellers they are equally sharing the tax. It does not always happen that they both equally share the tax, but in this case it is happening they both equally share the tax. To answer your question that you say why we care that is if tax has to be imposed it should be imposed on the other party not on us if we consider ourself buyer we hope that tax is imposed on seller and if we are seller we hope that tax is imposed on buyer. Two reasons I would give you and both are partially true. The one reason is that inadequate economic knowledge. We think legal incidence of tax is same as the real incidence of tax that is one point of you know we do not understand that. We think if seller is paying then why should we care. And when similarly the second reason is the here we are dealing with a very special case we are talking about perfectly competitive equilibrium although I have not talked about this case in the detail, but what we assume that there are large number of buyers and large number of. Seller. Seller. So, in this case whenever you have this particular scenario it does not matter whether tax is imposed on buyer or on seller it would be decided by who pays the tax would be decided by some other factor that we will look at, but if market is not perfectly competitive then it does matter who has to pay the taxes. So, that scenario we are not talking about. When we talk about a different kind of market there again we will give the example that what happens when tax is imposed in this particular kind of market fine. But now let us look at it this particular market. See, one way to you can look at it just to explain, just to get the feel of this part. What is happening? This is the, these are two original curve supply and this is demand. Now, let us say seller is being asked to pay certain amount of tax per unit of gold sold in the market the tendency that seller earlier if we continue with the example here is 4 and here is. 6. 6 what seller would realize seller would think tax has been imposed to us, I am just talking colloquially the tax has been imposed on us. So, let us pass this tax to the buyer. What would be an ideal for us that to charge 6 plus two more unit that is the tax 8 unit 8 unit per quantity, but seller would also realize the demand is a downward sloping function. If price goes up a buyers have to pay higher price they would then they would buy less of. Goods. Less of the goods they would not buy the same amount they would buy less. So, what happens? If they pass the tax to consumer the quantity bought will go down considerably. So, what they realize that what if we they are not interested in how much they charge they are interested in maximizing their revenue, revenue is equal to P multiplied by Q this is P multiplied by Q. So, if P goes up Q comes down. So, they are not interested in individual P they are interested in on the whole thing. So, they found the new equilibrium where these two are they get the list effect where they are able to maximize their revenue. So, they figure out that in certain scenario its good idea to share some of the tax burden so that consumer does not decrease consumers do not decrease their consumption considerably you understand that is why it is happening. When it is imposed on buyer what happens? The same if it is imposed on buyer sellers natural reaction would be why should we bother you know it is imposed on buyer, but immediately they realize or even before they think about it if they have they are in business for long time they realize this that if they have to pay higher amount per unit of the good they will buy less of the goods. So, it is good idea to take away some of the burden from consumers so they consume more of goods and that is why they will end up sharing some of the tax burden, is it clear. That is why the tax incidence is different, the economic tax incidence is different from legal tax incidence. We are talking about realistic scenario.
Microeconomics	Lecture28_Effect_of_Taxation.txt	So, we have been talking about demand and supply market equilibrium and related applications. And I gave you example of some market intervention and it is impact on market equilibrium. Market intervention we were talking about, and I gave you an example of price control and under this title we looked at 2 scenarios price ceiling and. Price floor. Price floor and in the beginning of the chapter I also promised that we will talk about the effect of. Taxation. Taxation on market equilibrium, but I did not talk about it because I wanted to use the concept of elasticity while talking about effect of taxes on market equilibrium, that is why I told you that time that we would wait for it, but now we have to study the elasticity. So, we can talk about tax. So, what is a tax, why do you think it is imposed although that is not the topic today, but since we are talking about tax we should have brief idea about what do we mean by tax. Sir tax is the amount we have to pay for the service, that has been delivered to me. What kind of service? Service in any form like products or. So, what you are saying? What you are saying that there are some goods although we have not learned this term, but let me use it I will talk about it more, little more, little later. The term is public good like good that cannot be provided by right now that is sufficient to learn the goods that cannot be provided by private entities private firm like street lights, it can be an example or cleaner. So, government provides? It and how can government provide it needs certain amount of resources to provide these goods. So, that can be one reason. So, provision of public good. The definition I gave you is definitely imprecise, but right now our focus is not on public goods. So, that is why let us not. Sir that is what we do with a do with tax. Haa; do with tax. But what is tax? What is tax is that the amount that you pay to the government for. Any service. Not for any service for any transaction or for having any income a different kind of tax government collects from you. So, when you are paying you are when let us say you are buying a pen and you are paying some local tax on it, it is not at that time it is directly tied to the certain provision of public goods or certain provision of services. What happens that government collects that money and uses it for providing certain public good or may be for some other purposes like for example, the other purpose can be transfer payment, distributional gestures, income to get to decrease the income heterogeneity. So, I can say distributional gestures or just distribution, but that is not the today’s topic right now we are going to focus on the effect of tax on market equilibrium and there are several kind of taxes just in the example, I gave you certain example you can look is that when you buy land you will have to buy revenue stamp. So, you are paying certain taxes there or when you buy milk, if you look at the fine print Sudha milk or mother dairy milk does not matter which milk you are buying or Parag milk, it says rupees 28 it may say one of these 2 things MRP; that means, maximum retail price. So, it includes tax in that case and on it may say local tax extra, you know sometime earlier long time back we had local tax extra rated, then we had MRP now you see on some of the goods again you see local tax is extra rated. It is, sometimes on breads cover they write this much price in Bihar, Punjab they have. Ha. So, it means different states have different tax regime, different rate of taxes. So, that is why the bread is sold at different price in different places. So, that is definitely there. So, let us look at the 2 simple right now there are of course. Various kind of taxes available, you can just think of just name income tax, excise tax, custom tax, when you buy the consumption tax, entertainment tax land tax. Vat. Vat you pay now we are talking about now GST goods and services tax. So, there are several kind of tax. So, right now at this basic level we would not be bothered by a specific nature of these taxes, we will look at in detail only 1 kind of tax, but right now I want to talk about 2 very very simple cases. And the first case is called a specific tax, unit tax, I will come I will describe what do I mean by specific tax or unit tax and second is ad valorem tax or proportional tax. So, now let us talk about a specific tax as the name suggests it is typically imposed on some specific items. So, a fixed amount, a fixed amount on each unit of good bought and sold in the market. So, when government says that if you buy a litre of milk, you will have to pay 2 rupees per litre of milk. This is a fixed amount it does not depend on the price of milk or value of milk what you pay is fixed amount. If seller gets or if you know if it is like price is 28 rupees and it is imposed on seller then seller will have to pay 2 rupees to the government for selling 1 litre of. Milk. Milk or if it is imposed on buyer, then buyer will have to pay 28 plus 2, 30 rupees. So, it is specific tax no proportion no you know it does not matter how much is the price of the milk it is the fixed amount ok. And the second is this is also called unit tax as it is imposed on. Each unit of the product fine. Now, let us look at the proportional tax or ad valorem tax, a proportion of the price of each unit of good bought and sold in the market. So, now, let us say the same example let us continue with the example of milk, let us say that price of milk is 30 rupees and a proportional tax of 10 percent is imposed on milk it means then 3 rupees will be paid to the government as proportional tax on milk. So, it is not fixed if price of milk decreases per unit tax paid on milk will also decrease, a price of milk increases per unit tax paid will also increase now this has another name that is ad valorem tax. It means the tax on value and value is definitely, price represents the value of that product in the market that is why it is also called ad valorem tax. Now, this tax whether it is ad valorem tax or it is a specific tax, it can be imposed either on. Buyers or it can be imposed on Sellers, one of these 2. What does it mean if it is imposed on buyers? It is imposed on buyers then whatever is the price of that good, buyer pays on top of the price of that good certain amount certain fixed amount if it is unit tax and certain proportion if it is proportional tax. So, buyer is paying on top of the price of that product fine ok. Now, or in other word you can say that the stated price of that good does not include the tax. So, you can take the example of local tax extra, because when it says local tax extra it clearly let us say it is written 15 rupees 84 paisa, local tax extra and you know local tax let us say for example, is 10 percent. What it means is that 15 rupees 84 paisa that you are paying to the seller and on top of this price 15 rupees 84 paisa you are paying, if it is proportional then certain percentage or if it is unit tax then certain fixed amount. On top of that price written on the product I am not saying it has to be written, written part is not important what is important that buyer has to pay on top of the price ok. And if it is imposed on seller then what does it mean? The seller has to it see here what it means that whatever seller is asking the buyer to pay that includes the taxes also, here whatever the seller is asking to pay it includes the taxes. So, in this case when it is written MRP, I am not saying in this case it is definitely it includes tax, but in this case it is a possibility that here the tax is imposed on seller. Now let us take an example what happens you know which one would you prefer. An imposition of tax on buyer or an imposition of tax on seller consider that you are largely buyer in the market, you do not sell as a student you do not sell any product in the market you are largely you are buyers. depends on the supply demand function. That depends on supply demand function, but typically I think you know about it, but typically what happens? The common reaction that you get from people they would say if they are buyer then they would say they would claim the tax would be imposed on seller, and if they are seller they believe that tax would be imposed on buyer. But let us see let us take 2 simple example, where this is the original demand and supply function I used, while talking about market equilibrium and with help of this we will see that the impact of what happens when it is imposed on buyer and what happens when it is imposed on seller. Of course, this is inverse demand function. So, if you want to write demand function from here you just has to express Qs as a function of Ps and from here Qd as a function of Pd and what did we get? Let us look at it let me draw if we solve it if there is no intervention from government, it means there is no taxation in the market then what is the equilibrium price what happens in that case Qs is? Equal to Qd is equal to Q and Ps is equal to Qd is equal to P of course, here I am putting Q and P for simplification for transforming these 4 variable equations into 2 variable equation system and what do we get if we do that. Q equals to 4. Q is equal to 4. Pis equals to 6. And P is equal to 6, that is what we get. Now, let us say the tax is imposed on buyer, what would happen? Of tax is imposed on buyer demand curve would shift where in which direction. Left inverse. Let’s first see why the demand curve would shift let me write the equation again let me write the demand function here Qs is Ps minus 2 and Qd is 10 minus Qd now let us say a tax is being imposed a tax of let us say t. Sir 10 minus. Ten minus Pd yes thank you 10 minus Pd and a tax this t is unit tax, this tax is unit tax what is important for the buyer is the total amount he pays. The basic notion that we have to think buyer does not care whether the money that he is paying is going to seller a or seller b or the part manufacturer or to the government, what he cares about is that the money a buyer is paying from his pocket ok. So, earlier remember when we did not had tax what could we do? We can say Qs is equal to Qd is equal to Q, that still be true here because still quantity bought and quantity sold would be equal in the equilibrium, but we can no longer say Ps is equal to Pd is equal to P we can no longer say of course, we are talking about at equilibrium level. It would not be equal is it clear? It would not be equal it no longer be equal what we said remember then when it is imposed on buyer, what it means is that buyer pays on top buyer pays some extra price more than what is written on the product, more than what is quoted for the product. So, what I can say Ps is still equal to P, but Pd is no longer equal to P, it is P plus T, it is P plus t now for illustration let us take t is equal to 2, is it clear this part is clear to you that Ps is still equal to P, but Pd is not equal to P. We are no longer giving demand function as a function of price that the buyer is paying what we are writing? We are writing here that demand function is a function of price the market price P as well as t. So, I can now say the supply side the equation is still Q P minus 2, but what do we get on the demand side? Q is equal to 10 minus P plus t and t is equal to. 2. 2. So, what do we get 8 minus? P. P. So, when we have 8 minus P of course, it is shifting inward, that is I illustrated mathematically that it will shift inward. This is 10 this is 8 can you explain it to me without using any math why it is shifting inward. Because sir prices increasing for consumers and if price is increasing demand will decrease. Go back to your original that original description that we had about the demand function. When we draw the demand graph we basically draw the marginal value versus quantity. It is marginal value increases. Marginal value is not increasing. Marginal earlier what we were saying that marginal value is equal to price. Price. Now, what we are saying that marginal value should be equal to price plus. Tax t. Taxation you understand now. So, now, marginal value is no longer just a function of price, but it is also a function of taxation, and since taxation is positive amount it forces the demand curve to shift inward. So, for that particular quantity marginal value is, marginal value has decreased, it is no longer the same marginal value that you gain. Effectively speaking the marginal value from the same good is now little lower because you have to pay higher price because of that tax. So, that is why it would shift inward. So, now, let us see what happens here, this was the earlier equilibrium and earlier equilibrium was Q is equal to 4 and P is equal to 6 what happens and how much is the shift, can you quantify the shift in the demand curve. 2. The vertical shift is equal to. 2. Tax. Tax. Whatever this unit tax you have and here that unit tax is. 2. Two. So, anywhere you calculate of course, this drawing is not perfect this height should be equal to. 2. Two this should be equal to 2. Now, notice one thing the demand curve is a downward sloping curve and supply curve is an upward sloping curve. So, do you think the equilibrium price will go down by 2 or more than 2 or less than 2 less than 2? Less than 2. Less than 2 why because the curve is curve has some slope, if it were flat then either you would get no change or just equal to2. 2. But since you have slope it will be somewhere between 0 and 2 is it clear. Yes sir. Fine mathematically if you solve it what would you get now. 5.3. If you solve now 8 minus P should be equal to, remember still this equation is still valid Q star s is equal to Q star d is equal to Q star. So, if you solve it 8 minus P should be equal to. P minus 2. P minus 2. P equals to 5. So, that will give you P is equal to. 5. P is equal to 5 and that will that means. Q equal to 3. Q is equal to. 3. Three, but this P star if you notice this P star is the amount that seller is getting paid. So, Ps star the amount that seller is going to getting is also equal to P and it is equal to 5, and how much buyer is paying? P plus t and that is 5 plus 2 7 buyer is paying now 7. Look at the original equation for demand there are 2 ways you can get it the original equation for demand is 10 minus. P. 10 minus P. So, Q is equal to 10 minus P or P is equal to 10 minus. Q. Q, P is equal to 10 minus Q, Q we have obtained is Q that we have obtain is. 3. 3. 3. So, P is going to be equal to. 7. Seven that is one way to look at it another way to look at it that the amount that buyer is paying is equivalent to the amount that seller is receiving plus the tax that is being paid to the government. So, how much seller is getting paid 5. 5. How much government is getting. 2. Two. So, 5 plus 2 7. but this sir 7 is the amount which consumer have to give for getting that 4 quantity. Not 4 quantity. 3 quantity. Three look at it here now look let us look in the graph here you have what we have obtain that it is 3 and this is 5, but this curve that we are using this curve has already taken care of the effect of tax. So, when, but if you want to look at the original demand curve which is the earlier one, before the shift when quantity bought and sold is 3 how much is the equivalent the corresponding price. 7. Seven. So, you go here this is the vertical 7. So, what is happening here 5 seller is getting paid and 2 unit goes to the government, and this is the tax revenue for the government, 2 multiplied by 3, but I will come to this tax revenue part little later, is it clear?
Microeconomics	Lecture08_Demand.txt	Let us begin with demand. Demand curve, demand function, let me write it here function also or demand schedule. But before that let me introduce a concept ceteris paribus. You know, when we are learning a new topic, it is also important that we learn the terminology used in that topic. and ceteris paribus is one such topic. What does it mean? Ceteris paribus means all other things are equal or constant Held Constant. Constant. So, it is, you know it is an idealization. It does not happen. You, we never you know when I say that let us study the change of price of apple on the quantity demanded, ceteris paribus. Means we are talking about all other parameters all other variables are held constant. And we are only talking about the effect of change in price of apple on the quantity demanded of apple. But it does not, it really you know you cannot expect that market just because you want to study market will held everything else constant. It does not happen, but let me give you another analogy from science, that we do these kinds of idealization. This is a modeling technique. Remember, like in physics in 11, 12th if you had studied physics. Then there you assume that whenever you are talking about the motion, law of motion you assume that friction is absent. It is never absent, but you assume it out. So, here we will assume that all other things are held constant. This is a modeling technique because you know as I said earlier that it is very, whenever you want to study phenomena, we have to abstract from reality. Because reality is very, very complex. It is very, very difficult to get some result from reality. So, for clarity we abstract from reality fine. So, what we are going to do? We are going to study, let me say that let us take banana, we talked about apple now let us move to banana. That the price of banana we will see, b subscript denotes banana P denotes. Price. Price. We will see the change of the price of banana on the quantity demanded of banana. This d denotes demand. As I indicated earlier, we are going to study supply also. So, their superscript s would denote supplied. And b is for banana. And Q is for quantity. So, we want to study the relation of P b and Q b. Ceteris paribus, means all other things are held constant. All other things are not changing. Only one thing is changing, let us say that the price of banana is changing, and the quantity we want to observe it is effect on the quantity of banana demanded by you. One individual, let us talk about first one individual, rather than about everyone. Let us talk about just one individual. What do you think what would happen? When price of banana goes up, the quantity that you would demand here what we mean is that the quantity that you will buy from the market. Will decrease. Would increase or decrease or remain the same? Decrease. It would decrease. So, P b goes up. Quantity goes down. Q b goes down. Can you tell me why? Why does it happen? Why? Because we have constraint on income constraints. Income constraint, right now we are not talking about income constraint. I haven’t even mentioned the income. So, let us not, you know bring some extra factor. Let us say let me rephrase this question, that there is no constraint on income. Do you think if there is no constraint, if there is no constraint on income do you think that this relationship is still valid? Valid It is not valid. No sir. 2 of you are saying it is valid, one of you is saying it is not valid. It is still valid, I would say even if you have a lot of income, probably if price of banana goes up, two things, one see I am not saying whether it would decrease, but it would definitely not increase. Let us agree to that. It is not going to increase. Sir, but in a case like if a person is really poor. Just be bit louder. If a person is really poor, and he do not have enough money and he is having only 2 bananas a day if we do not have any constraints on his income, the income rises. Definitely he would try to have 4 bananas a day. But the even if the prices of bananas. See, I am not saying that the income would not affect. I did not say that income would not effect that the quantity demanded by a person. I said other than income. Let us leave the income part out right now. So, you are talking about a scenario where income would change the quantity demanded. And we will see income would have definitely would change the quantity demanded. Sir if price rises then he would; obviously, prefer some other alternative. So, one thing is very good. So, one thing is. Alternatives. Of alternatives. Remember, what we are saying that the price of everything else is fixed. Now we are talking about banana. And let us say that in market we have banana as well as let us take some other fruit guava. You can take any other fruit that you want I like guava. So, let us compare banana and guava. The price of a guava is fixed at 5 rupees. Now you like let us say, let us say that you like banana as well as guava. Now let us just change the price of banana. Right now, you are buying banana is available for 4 rupees. Now the price of banana increases to 5 rupees. You may still go for banana. It will go to let us say it goes up to 6 rupees, you may still go for banana. But there will be a price level where and remember the price of guava is not changing, it is fixed. So, at one point at one particular level, you would prefer to shift from banana to guava. Even though your income is same, everything is same, but you would not be willing to pay that much higher for banana. So, the availability of alternatives. That is why when price goes up, your. Quantity demanded. Quantity demanded goes down. There is another more important this is, this is not more important, but at least equally important. Second factor, let us look at it let us say remember I talked about the maximum willingness to pay. Imagine again a thought experiment, in economics we do a lot of thought experiment we talk about scenarios, we bring scenarios and then we study. So now let us think that you are hungry. And you do not know the price of a banana in the market. You have money, money is not an issue right now. You have enough money in your pocket. And let us say that only food item that is available is banana. Again, it is an abstraction. This you know typically you have more than one good, one consumable available in the market, but this is an abstraction. So, let us not worry about it. So, let us say money is not an issue. How much will you be willing to pay? Again, it is subjective. You may be willing to pay 500 rupees. He may be willing to pay 200 rupees, and he may be willing to pay 100 rupees, but what I am saying you will be willing to pay some x amount. How about for the second banana? Will you be willing to pay the same as x or something less? Something less. Something less, definitely not something more. Yes. Definitely not something more, either same or less. How about the third banana? Even less. Even less how about the 4th banana? Less, what is this called? This is called diminishing. Returns to scale. marginal value. Let us pay attention to before, let us have a little bit of digression from the topic of demand supply, because as I said earlier it is important to learn the concepts or the jargon the terminologies that we use in this subject. And marginal is one such terminology. What does it mean? What does we mean? What do we mean by marginal? Anyone? Sir when we increase our demand by one unit then the price we pay for that marginal is. Something change in something. So, right now I think it would be easier for you to explain if I asked you to explain marginal value rather than marginal. What is marginal value? Let us say in this context when we are talking about banana. Yes sir. Marginal value is the value that you derive by consuming one more unit of banana, fine? So, marginal is about it is related to one more unit. It is always let me also tell you this is little bit imprecise. This is not a very perfect way to describe marginal. So, I am also going to use a little bit of concepts from calculus. If you do not understand that concept please do not worry about it, because it will not, it will not be costly for you in terms of understanding the concepts that would come later, but if you know it will help you immensely. Marginal is also a concept related to partial derivatives. In mathematical terms marginal is nothing but del by del y. Where y is the variable that we are changing, and we are observing it’s effect on the variable return here. Or in other words, it is the slope while keeping everything else constant, but this definition is also as good as this one. This one is more precise, but we will do it one more unit definition. That is good enough for us. So, diminishing marginal value. It means more we consume, the value we derive from one more unit gradually decreases. Yes sir. Now, let us know you would say why we are talking about this concept in demand context. Now, let us see the price of a banana is 5 rupees and for example, and your willingness to pay for first banana is 100 rupees. So, let me draw a table here with number of units and the marginal value that you derive. From 0 to 1, your marginal value is let us say 56. Again, these numbers are not sacrosanct, I have made up these numbers just for illustration. So, do not get confused. From 1 to 2 means, what it means from 1 to 2? Once you already had one banana, now you are consuming the second banana, the addition in the value that you would get is 42 units. While how much the total value get from consuming 2 bananas? 98. 56 plus 42. So, 42 is just the marginal value. It means from one banana you are consuming now the second banana. And similarly, let me write some, it should be 2. Sometimes people do not write these 1 2 3 4 5 they will just say 1 2 3 4 5. And you should understand from the context. So, just let me put some number arbitrarily. These are the marginal value, and this is quantity change in quantity at particular level. So now, let us say the price of banana is 10 rupees in the market. How many units will you consume? Can we get from this table? Or this table does not help us? Look at the table again, if price is 10 rupees how many units of banana will you get? 5. 5? 5. Why? Because the price here 10 rupees is definitely more than the marginal value you get from when you move from 5 bananas to. 6. 6 bananas, it means, now, you have you have already consumed 5 bananas. And you are going from 5 bananas to 6th banana. What is happening? You have to pay 10 rupees to get that 6th banana because each unit costs 10 rupees. So, if you are moving, you already had 5 bananas, and now you are thinking of having the 6th bananas, your marginal value means in addition in your value is going to be equal to 6 units. While how much you need to pay? 10 units definitely it is not worthwhile going from fifth banana to 6th banana. Is it clear? So, it is, you see that the buying decision is related to your marginal value not with your total value, not with the average value also. Although we will talk about these concept in more detail later on, what do I mean by marginal value, what do I mean by average value and things so on. How about a price of one unit of banana was 5 rupees in the market? How many units would have you bought? 6. 6 using the same concept. So, what we are basically saying that you will keep on buying as long as marginal value is greater than P. You will keep on buying as long as marginal value is greater than price of one unit of banana. How about when marginal value is less than P? You will. Not buy. Not buy. So, when will when will you stop buying, when marginal value is equal to. p. P. So, this equation will give you how many units of banana you will buy. Here it is not working M V is equal to P, because we are taking the discrete number of bananas. Let us say it was possible to buy fraction of banana. Or in other word if we were talking about banana buying decision over a month and we were taking an average for a one particular day. So, even though you are not buying bananas in fraction but if you are taking the average for a day, it may come out as fraction. So, when you allow for the continuous variation in the quantity of banana bought, then this equation M V is equal to P will give will determine your buying decision, fine so far? So now, what we have learned. Let me summarize these, 2 things that when we draw, by the way let me say one more thing. Whenever we draw price versus quantity in economics not in mathematics in economics. Quantity is always on x-axis, quantity is always on x-axis. Remember, how did you draw in mathematics in your school days? The thing which was independent we use on x-axis Independent variable on x-axis and dependent variable on. Y axis. Y axis here when we are talking about quantity demanded, we are talking about quantity demanded as a function of it is price ceteris paribus all other things are held constant. So, we are talking about how the price of a good is changing and visa vis how your buying decision is changing. So, in that sense the quantity is dependent, quantity bought quantity demanded is your, is your dependent variable, while price is. Independent. Independent variable. By the concept that you learn in mathematics, P should be put on x-axis and Q should be put on y-axis. Later on, I will tell you a nice story, not that today is not the day for that. I will tell you that we have a particular reason. You know, and there is some convention also; that we always put Q that is quantity on x axis, always quantities always on x axis in context of demand and supply. Price will go on y axis, but the thing is here what we have learned about demand function or demand schedule, or quantity demanded; that as price goes up quantity demanded decreases. So, if I put let us say we take price P is equal to 10, again I am making up. You know, again I am making up it is not from the earlier example, I am just making up these numbers to understand. Let us say that your quantity demanded is 2 kg. So, here you get a number 2 comma 10. The first number denotes the quantity demanded and second number denotes the price. So, what happens if price goes down, let us say now the price is not prices 5. What is happening to the quantity demanded? Will you demand 2 kg? Or something more than 2 kg? More than 2 kg. Or less than 2 kg? More than 2 kg. See again that is fine that you are thinking more than 2 kg, but it depends on the good. It is what I can say with certainty that you will not demand less than 2 kgs. At least you will demand, as price goes down from 10 to 5, quantity demanded would not decrease. It may increase, it may not increase, but it will never. Decrease. Decrease, fine. So, let us say that it increases now you demand probably let us say 4 kg. So, if you have enough you know, enough data giving quantity demanded as a function of price you can do you can draw the demand curve. So, although here it is not possible because we do not know whether it is a straight line or a different curve we cannot draw, but you understand the process, this is the way we have to do. We have to take different prices we have to figure out quantity demanded for this particular individual. And if we have enough number of data points we can draw. So, let me just draw here. It is a downward-sloping curve. What we have figured out is that demand curve is a downward-sloping curve. We haven’t figured out that shape would be like this. Shape can be any other thing; it can be very well a straight line. But we have learned that demand is a downward-sloping function. No matter whether you put even let us say you are you are not supposed to do it in economics, but if you do it just as experiment, put Q on y-axis certain P on x axis. Still, you will get up a downward sloping curve. Why? Because Q and P are universally related. If Q goes up it implies that P has come down in the market. So, that is why you will get, that is why we say that demand function is a downward-sloping function, and this is very important. Even when what we have learned that if price goes down quantity demanded would not decrease. Let us say it remains the same, in this case you will get a straight line. This line can also be, what does this mean? Let us say it is a straight line it is not a very good drawing, but it is a straight vertical line what it means that quantity demanded is not changing with. Price. The price in the market. Still, you get a demand as downward sloping function fine. So, never ever forget that demand is a downward-sloping function. Any question about it? That demand is a downward-sloping function. Two reasons that we have figured out why demand is a downward-sloping function, because of availability of alternatives and. And marginal diminishing and diminishing marginal value, two reasons.
Microeconomics	Lecture45_Ordinal_Vs_Cardinal_Utility.txt	So, in other word what we are saying that these 1 2 3 4 5, the position they are representing the ranks, let me give you, let me digress little bit and I will come to that. Do you understand the concept of cardinal number? Cardinal number. And ordinal number. Yes sir. Let me make it little more general although that is not useful for particular utility chapter, but let me add another kind of a number, nominal number. See number can represent different things depending on the way we are using it. So, one way let us say when you see number 10 on Sachin Tendulkar jersey, I think it is number 10, does it mean that he has tenth position that he bats becomes from batting at tenth position, no No 10 is just a name representing a number, representing Sachin Tendulkar in the match. In football any football player wear jersey it has a number, that number 7 you go out, because of some penalty what it means. The person who is wearing number 7 jersey should go out of the game. So, number here is representing name, nothing more nothing less, its just a name. So, number is. Nominal In that sense nominal. Nominal. We call such numbers. Nominal. Nominal numbers. The second kind is ordinal, let us say the 3 people took exam. The first a person got 100, the maximum marks was 100, the second one got 70 and third one got 65. So, what we can say or we say always that this person came first, this person came second and this person came third. Let us say instead of 65 that he had received. 100 and 60 what would be his rank third. Third It would not change and let us say first person, if he had received 71, what would be his rank. First. First. So, we cannot, what it means is, that second minus one is meaningless, it does not contain this information that what is that, how much is the difference. What information it contains? it contains the relative rank, that second is lower than first, but above third that is what it says, and cardinal we can say height, or we can say weight, weight of a person is 60 kg another person has 75 kg, here the difference makes sense. hm That second person is 15 kg. More than He is having 15 kg more. more weight. Weight or here even when we talk in terms of marks 71 70 and 60, when we say that these are the marks, 71 is one mark more than 70. So, here we are talking about number in cardinal sense. This also gives the rank 75 is more than 60, 70 is more than 60 like that, it gives the rank, but it keeps more than rank, it also gives that intensity how much more, how big is the difference, things like that. So, in that sense I am talking about remember. Now let us come back to utilities, because we are not worried about these numbers, you know just thought the same of these numbers, what we are talking about is utility. So, come back to the utility function, remember when we started talking about demand, and we started talking about diminishing marginal. value. Value. So, there, although I did not mention, but again in the sense, a real sense when people were using this utility, they thought that utility is cardinal, it can be measured precisely. It cannot, it is not just you can measure it, you can also compare it. Compare it. Among between two different persons, but when we say the utility is ordinal, and then we say that you, the mister x likes coffee more than tea, it does not contain this information. How much. That how much. How much. How much more, and that is why it cannot, I cannot take the valuation of your utility and compare the valuation with his utility, because although we are using the number, but it would be wrong on our part, to use these numbers on the in the cardinal. Cardinal Sense, at best we can use it in. Ordinal. Ordinal sense, but earlier economists they were using these utility numbers utils in. Cardinal sense. Cardinal sense, but here in this chapter we are using it in ordinal sense. Fine, is it clear?
Microeconomics	Lecture66_Substitution_Effect_and_Income_Effect.txt	Now we are going to study the effect of change in price on optimal bundle from a different angle ok. Let us look at it what happens? Here we have let us say this is our; this is what we have; this is let us say again this is x 2 this is x 1, and this is the bundle. Let us pay attention to the budget line what is budget line P 1, x 1 plus P 2, x 2 is equal to I this is the budget line or what we can write x 2 is equal to minus P 1 by P 2 x 1 plus I by; P 2. I by. P 2. P 2. So, if P 1 changes P 1 changes what happens if P 1 changes. Amount of x 2 would change and x 1 change. Amount of. X 2 and x 1 both will change. At optimal level of course, both will change, but the point here is that the effect of change in P 1 we can decompose it into two part effect of change in P 1. Because two roles that P 1 is playing change in P 1 would bring to the optimal consumption bundle. One effect would be like let us say that relative attractiveness of these 2 goods. Now, let us say everything else is same and the relative price forget about the actual price that everything is same just the relative price of good 1 and good 2; good 1 with respect to good 2 has changed ok. So, in other word if everything else is same it means this person should be is getting the same utility. And of course, how we are able to manage it that we will see it later how we do it, but let us say this person is getting the same utility, but now the prices of these 2 goods are different in the economy and let us say that P 1 has gone up. So, what will happen if we are on the same utility level then the new budget line should be tangent to this utility function this utility level this indifference curve and how would it look like because P 1 has gone up. So, then this line would become steeper. So, it will be something like and what will be the optimal level. There will be decrease in amount of; X 1. Good 1 consumed and there will be; Increase in amount of good 2. Increase in amount of good 2 consumed that is one effect because of change in price, but artificially because if price is changing let us see what happens to the budget line income remains the same. So, we will not this is not the new budget line, not the new budget line. What will be the new budget line? Of course, the maximum amount of quantity 2 that can be bought in the market would not change because of change in price of good 1. So, and what I am saying that P 1 has increased. So, then budget line will rotate pivoted at this particular point and it would rotate in. Clockwise. Clockwise direction; so, the new budget line is going to be like this so how did we get this budget line what did we say here if budget line will rotate then this utility level it becomes unachievable unless the optimal point is a corner point. So, I am not talking about those scenarios. Unless it is the optimal point the corner point is the optimal point the earlier utility level cannot be achieved in this new scenario. Fine. Yes sir. So, let me say again it would be something like and of course, I am drawing I am sorry. This is the new bundle, new optimal bundle, fine and of course, this is approximation this is not exact graph ok. So, now how did we move from here to here; what is the difference? So, what we are basically doing now because the budget line is changing, but we want to yes we want to reach to the same utility level. So, artificially we are giving enough income to this consumer so that he is able to achieve the same level of utility in this new changed world and why this world is different because the prices of the price of good 1 is; Change. Different. So, basically in that case this line and this line these 2 lines should be parallel because the slope of this line is new price P 1 divided by P 2 and this line also has the slope new P 1 new if I want to say P 1 new divided by P 2. What is the difference that here this person has little more income and art we did it artificially. We did it in a way so that this person is able to achieve his earlier utility level and why did we do it because we want to untangle the effect of change in price into two different components that price is doing two things. One it is changing the relative attractiveness of 2 goods and second what it is doing it is also decreasing the purchasing power of the consumer. How it is decreasing? Let us say rather than expressing this person and person’s income in rupees let us say the good 1 is food, and good 2 is cloth. Let us say food is 10 rupees per kg, and the income of this person is 100. So, we can express this person income in terms of food that would be 10 units of food. But now the price of food let us say it goes up from 10 to 20, it goes up from 10 to 20. Now his income is just 5 units of food. So, there is decrease in his purchasing power ok. So, change in price is bringing doing 2 different things; one it is changing the relative attractiveness of good and it is also changing the purchasing. Fine ok. So, when we talk about this first one. When we talk about the first one that it is changing the relative struct attractiveness of the good that is what we did here that what we did we kept the utility level fixed, and we changed the budget line so that the new budget line remains tangent to the; Same utility level. Same utility level and so that is why we are keeping everything fixed. Here there is only one change, income is not changing in the real terms only the relative attractiveness of these 2 goods are changing because of change in price of good 1. Sir, income is changing. Here income again income is changing, but in the other in the purchasing power term, it is not changing what is the role that income is playing here that income is used to achieve certain utility level. So, the monetary value of income may be different, but in terms of utility achieved it does not change, the person is achieving same level of utility ok. So, in the real sense income does not change ok. In nominal since it has changed so in that sense I am talking about that income real income remains the same because same level of utility is being achieved in this case. So, this here gives us substitution effect. Let me give you the definition the change in the amount of quantity demanded, because of the change in the price of that good while all other prices and the level of utility achieved are kept constant. Fine. So, again let us look at it here. This is the utility indifference curve achieved in the maximum level being achieved in this case here we have x 1, and x 2 and earlier this is the x 1 star that is the quantity demanded for good 1 and now the new one is x 1 star dash. Fine; clearly whenever we have convex indifference curve, or convex preferences that would be more appropriate. Convex preferences then what will happen if P 1 goes up x 1. Goes down. Start goes down and this I am not talking about overall effect. I am just talking about because of Substitution effect; Relative prices. Because this is the substitution effect, we are changing only the relative attractiveness of the good, but this is something artificial because we have we this is the original. Budget line and the new budget line that we are using is this one we are artificially jacking up the income of this person so that he is able to achieve his earlier utility level in the new scenario. But this is done artificially what is really happening that because of change in income this will budget line will become something like this. And then we can have let us say optimal here. Something like this, this is the new optimal level. And so we can trace 2 changes from here to here and then from here to this is the final. So, this change is the total change. Total change. Total change and how about change from here to here.? This is changed because of; Substitution effect. Substitution effect and then what is remaining from this artificial point to the final point. Income. What is that change? That is the change in quantity demanded because of income effect ok. So, let me write what is income effect the change in quantity change in the change in the amount of quantity demanded because of change in purchasing. Power. Power of a consumer while all the prices are kept constant, fine. So, remember these 2 lines, this budget line, and this budget this artificial budget line and the new budget line they are parallel to each other. So, it means the relative price of these 2 goods are Same. Same; what is the difference? The income level, the real income level are; Different. Purchasing power is different. So, this change is because of only purchasing power. Now, let us look at it substitution effect whenever P 1 goes up. Let me write it here P 1 goes up x 1 star decreases. Just your substitution effect; can we say something similar for the income effect? No sir. No we cannot say there are 2 scenarios here that we you have studied already that either it can go up or it can; Go down. Go down here. Let me introduce P 1 is going up. So, what is happening income is; Decreasing. Income real is decreasing. And the one when real income is decreasing and x 1 star is going up it means this is; Inferior good. Inferior good and this is; Normal. Normal, good. So, in case of normal good the substitution effect and income effect they work in the; Same direction. Same direction; but in the case of inferior good substitution effect and income effect. They are in the opposite direction.
Microeconomics	Lecture64_Effect_of_Income_on_Quantity_Demanded.txt	Now what we are going to do if again whatever we are discussing is true for n dimensional world or a good populated with n different goods but I am going to describe a world which has only 2 goods. So, here basically what we have x 1 is a function of P 1, P 2 and I and x 2 is a function of again not necessarily the same function that is why here x 1 and x 2 these are different x 2 is again a function of P 1, P 2 and I. So, what we are going to do? We are going to study the effect of let us say let we will do it only for good 1 of course, good 2 will become clear to you. But we are going to study the effect of change in I on x 1, then we are going to study the effect of change in P 1 on x 1. And then also we are going to discuss the effect of change in P 2 on x 1. Three things we are going to discuss fine. So, the first thing first let us start with the income the effect of change in income on the quantity demanded of good 1, effect of income on quantity demanded for good 1. This is what we are going to describe. Of course, you should know this quantity demanded how a consumer is buying any of these goods depending on his optimization problem he has certain taste, he has certain preference that we have translated into utility function and indifference curves and he has some budget constraints and based on these two, he figures out that how much at the to maximize his utility to get the maximum level of satisfaction how much of good 1, he should consume. And that optimal level is his quantity demanded for good 1, it is not just any quantity demanded. So, let us take an example rather than doing a general case let us take an example what we will do we will take a specific kind of utility function, and this is probably the most important utility function because you will encounter it again and again in the economic theory and that utility function is the type is called Cobb Douglas function. Again, we are talking about 2 good world x 1 and x 2, you maximize it with respect to x 1 and x 2 such that P 1, x 1 plus P 2, x 2 should be less than or equal to I. If you solve it remember a similar problem, we have solved in the class what was that problem we had solved log x plus log y we have solved here of course, log x is x 1 and law of y is log of x 2 ok. Just look at it look at this problem we know that form the hour of the optimal level of consumption of good 1, and good 2 does not depend on the form it depends on the preference that we have already talked about it. So, if we take any monotonic transformation that would also work to get the optimal level of x 1 and x 2. So, let us take monotonic transformation log is of course, we if we take log of this function we will get the monotonic transformation of this particular function and what we will get a log or let me write it step by the step this is going to be x 1 a, x 2 b and here its multiplication. So, what we can write it we can write log x 1 a plus log x 2 b, this is property of log. And then this can be written as log x 1 plus b log x 2. Now I consider you sufficiently familiar with this technique. So, I am not going to solve it completely. . But if you solve it what you will get? X 1 star is equal to a I divided by P 1 and x 2 star is equal to b I divided by P 2. So, what is happening here let us look in the graph if you draw the Cobb Douglas it will look like this ok? Now let us say what we have here is let us do this what we have is this is the budget line touching it here of course, my poor drawing and then what we have here is. This is the next budget line. How did we get the other budget line here let us say this is P 1 x 1 plus P 2 x 2 is equal to I 1. Now what has happened here these 2 lines are parallel. So, what we are doing we are keeping P 1 and P 2 fixed, because what we are interested in the effect of change in income on. Quantity. Quantity demanded for good 1. So, now, we are changing it to I 2 and when we change it to I 2 what happens there is a parallel shift in the budget line. And that is what we get and similarly let me draw it just like this touching and then this is the third, and this is the fourth. These are parallel to each other and of course, all the optimal bundle lies on bundles, lie on this line that I know; how do I know? Students: By getting tangency By getting the tangency points ok. if we are putting P 1 constant. Then x 1 is a 1, so it is a linear function in I, linear function in I. So, if we increase the income, but it would be a linear transaction only. It is linear; it will be linearly increasing. So, what we are getting this path basically this line which passes through all the optimal bundles when income is increased or decreased or in other word when income is varied is called income expansion path. And of course, income expansion path is drawn on graph giving the indifference map. So, what is important we are drawing remember for income expansion path, we are drawing the indifference curve and we are finding the optimal bundles. And when then we are drawing a curve that passes through all the optimal bundles that curve is called income expansion path or income consumption curve fine or income consumption path fine. In other word it is very much possible that we have this kind of this is the indifference map and then let me draw the budget line what we have here is. So, it is like it is going like this not necessarily it is a straight line, this is the curve giving all the optimal bundles. So, this curve is called income. Consumption. Consumption path; fine. If I look at it, I can say there are to possibly at any level that let us say when income goes up either it goes up x 1 star goes up. Let me write it here right what is happening income is going up and d x 1 star d I is; Positive. Positive. It what does it mean that when income increases, the consumption of good 1 at the optimal level increases. So, in this case we call these goods is. Normal good. Normal good ok; and when it leads to decrease in consumption of good 1. Inferior good. Then it is called inferior good. At some places normal good is give a name of superior good that we will stick to these names. Normal good and inferior good fine is it clear. Yes. So, now, what can be do that rather than drawing this curve let us look at the definition first for a moment that just what we understood about income expansion path that income expansion path of a consumer is a curve on his indifference map. This is very important that this curve is represented on. Indifference. indifference map that traces all his optimal consumption, that traces all his optimal consumption bundles for his different levels of income; while the prices of all goods in the economy are held constant; so, what I am trying to say that you should not forget this term that this curve is traced on this indifference map. Now, what we are going to do? We are going to trace these just the component of optimal bundle on different curve. What we have here is let us say that x axis gives us the optimal level of consumption of good 1 on y axis we have income. So, what we are taking let us look at it that here this is x 1 star this x 1 star corresponds to a particular level of income. So, we can figure out that how much is x 1 star and how much is the; Income. Corresponding income and we plot it here. And similarly for all the optimal bundles what we plot x 1 star and respective I and then we will plot depending on the different problem we plot it will look like this ok. It can be any curve and then we can of course, if we take more curve more optimal bundles we will have better. Continuous curve. Continuous curve and this curve is called Engel curve. Now let us look at it on Engel curve, if Engel curves is like let us say this there is a possibility that consumption of good 1 increase as income increases up to certain level and that is till this point and then it starts decreasing. What does it mean? It simply means that in this zone this good is; Normal good. Normal good and in this zone. Inferior good. It is inferior good fine is it clear ok. Now let us take 1 or 2 examples we have obtained the expression of x 1 star in terms of P 1 and P 2 and I earlier. Let us try to draw the angle curve for those particular cases. So, let us take one case of quasi linear utility. What did we say that quasi linear utility will be of this form v x plus. Y. Y. (Refer Time: 14:52). Where it is linear in y and v x where of course, we should put in some assumption here that v dash is increasing in x, but the rate of increase is decreasing as x is increasing. What it means is that any fixed level of y if we change x the utility will increase, but at decreasing. Decreasing. Rate. Fine; can you tell me what will be the income expansion path? We have taken a special case where v x was log function. What we had I do not remember exactly, but we had something like a log x plus b y. Something like this we had. So, can you tell me what will be the income expansion path for x? Remember we had solved it that first it linearly increases in income ok. Because what happens that up to certain level this person spends is income only for. Yes good Good one. So up to that level x 1 star is basically I by. P 1. P 1; a function of I by P 1, fine. So, it is linearly increasing and after a certain level is reached. He stops by next one. He stops he known he does not buy anymore of good 1. So, it becomes independent of income. So, it will be like this. So, Engle curve looks like this. How about for good 2? first 0 till Up to certain level it will be 0, let me use this colour. So, it is like this 0. Increasing. And then it starts increasing. linearly. Linearly fine is it clear. So, now, we have studied the effect of change in income on quantity demanded. Of course, we have done it for only good 1; we can do it for good 2 also. So, let us look at Cobb Douglas function, what happens in for the Cobb Douglas function it is linearly. Increasing. Increasing. So, this will be the Engel graph Cobb Douglas, fine.
Microeconomics	Lecture57_Utility_Maximization_Example.txt	Let us take one particular example where utility is given by log xy. Fine and budget constraint is given by of course, x has to be greater than or equal to 0 y has to be greater than or equal to 0, how can we solve it? First what we will do? From here we can get the indifference curve for the fix level of utility we will get different indifference curve. And what will be the slope of that indifference curve? Or in other word what would be the marginal rate of substitution it is equal to Ux by Uy and what is Ux? Log x Let us calculate it, what we have is u of x comma y is equal to log xy; if we use the log rule it can be written as log x plus log y. And marginal utility from x and what is marginal utility? The change in utility if we increase one of the goods by one unit. While keeping all other goods at the same level and what we will get 1 by x. And similarly, del u by del y is one by y. So, in other word, from here we will get minus y by x. From here, what we get because of monotonicity, we do not have to worry about this inequality part. What we have to worry about Px x plus Py y should be equal to I and because of monotonicity it is increasing in x. The utility is increasing in x and y we do not have to worry about these 2 constraints also. So, what is the slope of this indifference curve, this budget line? It is. Minus Px by Py. So, MRS has to be equal to minus Px by Py and how much is MRS is equal to minus y by x. In other word, Px x should be equal to Py y and what is Px x? Expenditure on on good and this is expenditure on good 2 mind you, this is not always true. This is because of a specific utility function that we have selected. It depends on utility function and from the budget line what do we know? Px x plus Py y has to be equal to I. So, this can be replaced by the other what we get 2 Py y should be equal to I. So, y is I divide by 2 Py mind you I is parameter income given to that person person typically does not have control over it. Similarly, Py is the market given and y he has to choose how much y will he choose to maximise his utility? That is going to be I divided by 2 by Py and similarly x is going to be I by 2 Px. Now, let us look at different utility function. Let us say utility function is given by x plus 2 y. What it means? Is that this person utility is a straight line that we have already discussed. How would it look like? How is it going to look like? Minus 1 by 2 like this. Let us say, the price of course, the budget line is going to be this. Let us not worry about the inequality sign, because we have already discussed if monotonicity satisfied, we do not have to worry about inequality in the budget set. The problem here is, that this utility function does not satisfy strict convexity axiom. It is convex, but not strictly convex. What would be the bundle that would lead to the maximum utility for this individual. Let us say Px is equal to Py. Let us say it is equal to 1 think about it. So, in other word, how it is going to look like? A budget line is going to look like this something like this. So, from graph it is very clear good 1 and good 2 utility is increasing in this direction. So, what this person will try to do? Try to reach the maximum possible indifference level. So, from let us say if he is starting with x equal to 0, y is equal to 0 he will move in this particular direction. And keep on moving and after he hits here let us say the budget line what he would realise that, if he moves in this particular direction, his utility increasing, and he would end up at this point it means he will not consume. x Any of x x star is equal to 0 and then this problem is very simple. How much y he would consume? Everything if x star is 0, then everything it would be all his money would be put for to purchase y. So, it is going to be I and let us say Py is not equal to one then I by Py and if I say I give you more general problem. Now, let us look at it mathematically also what is happening at this point? He has here is the point optimal point that we have figured out is 0 comma I by Py, I by Py fine. Now, let us say if we increases x and decreases y and of course, with the aim to remain on the same indifference level. So, what does it say? What is his marginal rate of substitution? Marginal rate of substitution marginal is, remember is minus Ux divided by Uy. So, minus 1 by 2 or if you just look at here what he will be what he wants to maximise? Is the number that he obtains from x plus 2 y. So, to remain on the same number, remain on the same indifference curve and he wants one more unit of x. How many units of y he will have to give up? Half unit, so that is why it is equal to MRS is equal to minus half. Minus is minus only indicates that x and y are moving in the opposite direction that is it. So, he will be he will have to give up half unit of y to get one more unit of x that is his marginal rate of substitution any doubt about this? Now, what is happening? Look at it what is the market price the market price of good 1 and good 2 are equal, it means in market, you can exchange one unit of good 1 by giving up one unit of good 2 or you can get one unit of good 1 by giving up one unit of good 2. I think I said the same thing but does not matter the ratio is one is to one fine. Now, for you to satisfy what does it mean? What is your ratio of exchange in your mind? 1 is to 2, 1 unit of good 1 is 2 unit of good 1 is equivalent to 1 unit of good 1 good 2. 1 unit of good 1 let us pay attention here one unit of good 1 is equivalent to. Half unit of. Half unit of good 2 and similarly one unit of good 2 is equivalent to. 2 units. Two units of good 1 fine so, of course, in your mind the exchange rate is bad for bad for bad to get good 1. Good on. Bad to get good 1 market is giving better price. So, what you will do? You will keep on decreasing the consumption of good 1. Good 1. With the hope that to increase your utility, that is what would happen when you move in this direction, but you keep on doing it and this the indifference curves are straight lines. So, MRS is same everywhere MRS is not decreasing even if you have more of good 2. MRS is not decreasing. It is not strictly convex remember, we talked about diminishing marginal rate of substitution. In case of strict convexity, here we do not have a strict convexity. So, marginal rate of substitution remains the same. So, you keep on decreasing and market is always giving you better deal for good 2. According to your utility function. So, where will you end up you will give up all of your good 1 and you will keep consume only good 2 fine is it clear? Yes sir. Ok. So, at the optimal level, the rate of exchange in the market should be same as rate of exchange, that you have in your mind. Otherwise, if these 2 are not equal you would always trade in the market that will make you better off fine. Now, let us look at another utility scenario rather than giving you a function and solving it completely just. So, that you understand let us say this person gets satiated at 1 point. So, his indifference level will be given as this something of course, this is bad and here is his budget line. There are 2 possibilities: one is this good 1 good 2 and second is this possibility and your budget line is this, these are 2 possibilities. So, far we have been talking about that we should have the optimal bundle on the budget line. How about this case? We would not have because remember what is happening in this case? Monotonicity is violated more is not better than less, but how about this case here? Is still it would be satisfied why because we are dealing with in the zone where more is still better than less.
Microeconomics	Lecture99_Cost_in_Short_Run_MC.txt	Now, let us talk about the marginal cost. What is marginal cost? 1 2 definition is rate of change we have been using these margins, the marginal concept again and again. So, rate of change in total cost with respect to quantity produced. So, basically marginal cost is nothing derivative partial derivative of total cost with respect to quantity produced and let me say let me write it further, this is TC is equal to FC plus VC of Q that we have just discussed and fixed cost is something that does not change with the output. So, this is also equal to the partial derivative of variable cost with respect to quantity fine. Yes sir. If we do not want to use calculus what would be the definition of marginal cost; Rate of The cost of cost to produce. One. More unit. One more unit. So, what we are saying let us say marginal cost at 1 what we have is this is what we will get and what is this TC of 1 is FC plus VC of 1. Yes sir. And what is total cost to produce 0 output. Plus. FC. VC 0. VC of 0 and VC of 0 is equal to 0. 0. So, what do we get? FC-FC gets cancelled. VC 1. And what we can write it is VC 1 divided by. 1. One and this is average variable cost to produce 1 more unit average variable cost to produce 1 unit of output. Yeah. So, marginal cost at 1 is equal to average variable cost, what can we say about marginal cost to produce second unit, when we have any relationship between marginal cost to produce the second unit and the average variable cost of producing 2 units. Notice the language, I say the marginal conduce marginal cost to produce 1 more unit at level 2 because we are moving from 1 to 2, but here we are saying average variable cost to produce 2 units. 2 units. Because what we are talking about here is total variable cost or variable cost to produce 2 units divided by 2 can we talk about any relationship here? Sir, marginal cost of 2 would be marginal cost of 1 2 minus marginal cost of 1 upon 1. So, what we can do? We can write it like this. Yes sir. What is this equal to? Marginal cost total cost of 2. Total cost to produce 2 minus total cost to produce. 1. 1 and what we have here is fixed cost variable cost to produce. 2. 2 units minus fixed cost minus variable cost to produce 1 unit, fine. Yes sir. This will get cancelled, and what we get here is variable cost to produce the second unit minus variable cost to produce the first unit and what is this equal to VC 1 is equal to MC 1. VC 1. Yes sir. Of course, what you said is also right, but here we are more interested this is equal to MC 1. So, VC 2 is MC; MC 2 plus MC 1 ,and similarly how about VC Q can I say it is equal to mc Q plus MC Q minus 1. Yes sir. Why. Sir because the variable cost of producing nth good would be the marginal cost of producing that good starting from 1 like the change individually summing of the. So, basically what we are saying here we are using discrete changes. Yes sir. Notice here we are using the discrete changes let us look at the marginal cost is like this, this is the marginal cost and here we have quantity. If we integrate from one to let us take it from 0 because here now, we are using till here we are using discrete and here we have continuous ok, so from 0 we talked about delta change in output and so on. What we have here is; what is this area under curve, or in other words, we are integrating it from 0 to Q, we are integrating it from 0 to Q, what would we get if we integrate it from 0 to Q. Sir that would give the way it will cost. That why? Because it is a summation of marginal cost for easy good. So, here what we have done here is we have taken we have broken it into the small part. Yes sir. And we have just derived this. This is for one this is for the second and so on if we keep on adding what we will get is variable cost to produce Q unit minus variable cost to produce 0 units and variable cost to produce 0 unit is 0. So, we end up getting variable cost to produce Q units.
Microeconomics	Lecture38_Convexity_of_Consumption_Set.txt	Second, that I want to talk about is let us take, now I am not going to describe the whole space only the non-negative part here is x 1 and here is x 2. Let us say we have two bundles bundle x and bundle y. Bundle x is equal to x 1 comma x 2, it means x 1 amount of first good and x 2 amount of second good. For example, x 1 is giving you, just I am making it up that x 1 is giving you quantity of food and x 2 is giving you the quantity of cloth. So, when I say x bundle, bundle x, that contains x 1 amount of food an x 2 amount of cloth. So, when we have, when we take these two bundles bundle x and bundle y a bundle x. Let us say that the consumption set is denoted by capital X, this is the consumption set. And then what can you describe this X for me, what is this X in this notation, this graphical notation. Student: The set of all bundle which are affordable. Not affordable, remember you cannot when you are talking about consumption set you cannot talk about affordability. Remember the first building block is consumption set here we are not deterred by affordability. Whatever our mind can conceive here of course, you say if mind is allowed to conceive mind would conceive more than two goods food and cloth, but right now I am talking it is an imaginary world that I am talking about in that imaginary world you have only two goods, food and cloth. So, what would be the consumption set? Yeah, or in other word a consumption set would be a set of all the bundles which contained non-negative amount of food and cloth. So, now, we are taking x and y these two bundles. So, what I am saying if x, it is important that you learn about notation, this notation means belongs to and small x denotes an element in this set in this consumption set fine. So, if x is belongs to X it means x is a bundle, which can be conceived in x that is the capital X in the consumption bundle and similarly we have y in the x. So, we are talking about two bundles. Then x plus y should also be an element in capital X and this property is called additive property. Rather than using notation, let me use numbers I am saying that it is conceivable to consume 2 units of food and 1 unit of cloth and also it is possible to have 1 unit of food and 2 units of cloth then you should also be able to conceive 2 plus 1 comma 1 plus 2 means 3 comma 3, 3 units of food and 3 units of cloths that is also a possibility. You should be able to conceive. These are the regularity condition that we are imposing because you can say I am not because you are not allowed to select your consumption set randomly or any way you want it should follow some restriction you it should it should be constrained by some of the criteria. And these are the criteria that if you are able to think about this bundle and this bundle then you should also be able to think about the 3 comma 3 bundle or in symbol if x is a conceivable bundle y is the conceivable bundle then their sum should also be a conceivable bundle is it clear. Now, third property that I want to talk about is divisibility. We just talked about additive property and third is divisibility. So, for that one assumption that we make is goods are infinitely divisible. Of course, these are mathematical properties, but in economics we use mathematics intensively to make our life simpler. Mathematics is used as a language the language of economics, and it helps us immensely. So, that is why we are making these assumptions. So, what we have here is the goods are infinitely divisible. I will give it then, let us say if we have a bundle 4 comma 3 means 4 unit of food and 3 units of cloth, if we are able to conceive then we should also be able to conceive 4 t comma 3 t where t is where t is a number between 0 to 1. And for example, we can take t is equal to 1 by 1000 or let us take does not matter you can take 1 by 1000. But let us take here 1 by 365 just for the sake of example, what does it mean that if it is possible if it is, if you can conceive 4 comma 3 then you should also be able to conceive 4 by 365 and 3 by 365 bundle. If this is 4 comma 3, 4 units of food and 3 units of cloth is conceivable then 4 divided by 365 comma 3 divided by 365 is also a conceivable bundle. Why you know does it make sense? Let us take cloth you cannot consume half of a cloth let us say if this cloth the that we have on y axis it is number of shirts that you have or number of you know earlier if we are talking about primitive economy we they have piece of cloth that they would use to put on their shoulders or they were that they would wrap around their waist. So, in that sense it does not make sense to talk about half of that cloth. So, why we are talking, forget about half here I am saying you can take even one 365 or 1 by 1000 or 1 by 24 or 1 by 10 any fraction you can take and that is also a possibility how can we do that. So, see here basically one justification one can give that we are taking here 365 deliberately I took thinking that 365 is days in a year although this year we have 366 days. So, it does not matter you can change this to 366. So, let us say you consume these food and cloth just you know once or the 4 unit or 3 unit you consumed in the whole year now you are talking about for a day. So, on average you consumed 4 by 365 comma 3 by 365. So, we are taking average for a day these 4 and 3 are unit, it can be in thousand it can be in 100s does not matter. So, you can in this fashion you can achieve all the fraction. So, just it depends how we define our problem. So, sometimes its good idea to tinker with the problem, you can express the problem in some other word, the problem will not change, but the solution will become much simpler. So, that is why we are making this sort of assumption. So, it would help us to solve consumption problem later on in much more easier manner. So, one justification you just take the average over a longer period and you will get number in fraction. So, and this is allowed we say this property is called divisibility, divisibility. Now, what I am going to do, I am going to combine this additivity with divisibility. Additively, additivity means that we can if we can combine two independent bundles then we should be able to conceive that conceived them jointly also and divisibility is just if we can we are able to think about a bundle then any fraction of that bundle can also be thought about fine that is what we are saying. So, if we add these two what we get is convexity and that is a very nice and important property as we progress in this course you will see this word convexity again and again. So, it is very important that you understand what does convexity mean, not just in the context of consumption theory, but in general you should understand what does convexity mean. So, what convexity is let me give you the definition and then I will give you the example. Convexity is very simple if we take two bundles let us say x and y in the consumption set we are picking any two bundles in the consumption set, and what we are saying that if x and y are in the X means if these two individual bundles belong to this consumption set then this particular combination should also belong to the consumption set and where lambda is anything between 0 and 1 this is the convexity property. We can prove it very easily because this is not a new thing we are using these two additivity and divisibility. Let us see how can we prove it very simple. Y is in the consumption set fine, so by definition one minus lambda y will also be in the consumption set if we are able to think about y we should be able to think about any fraction of y and this is one of those fractions. So, this is in the consumption set similarly if we are able to think about the consumption bundle x then we should also be able to think about any fraction of x and now forget about x and y what we know that lambda x conceivable bundle. So, it belongs to x and 1 minus lambda y is another of conceivable bundle. So, it belongs to the consumption set. So, using the additivity property lambda x plus 1 minus lambda y also belong to x and since what we said 1 minus lambda and lambda should be fractions. So, they would be fraction only if lambda is between 0 and 1, that is why we are putting this restriction. So, if x and y are two consumption bundles then any linear, this is linear combination x and y are combined in linear fashion. In the graph let us look at in the graph, here we have x 2 here we have x 1 and we are taking two bundle x, x and here is we have y. So, what this says that whenever we take any two bundle and we draw a line let me use a different color. So, all the bundles lying on this line should also belong to this consumption set. So, in other word if we can think about let us say for let us I am just do not want I am not very particle about food and cloth, let us say now I am talking about just two good world and one good is mango and another good is guava fine. Let us say 2 comma 1 means 2 mango and 1 guava and another bundle is 1 mango and 2 guava just two I am picking. So, it also means that lambda can be anything between 0. So, let us take half and half it also means that 1.5 mango and 1.5 guava, a bundle containing 1.5 mango and 1.5 guava also belongs to this consumption set fine. What does divisibility means? That you draw you take from origin you connect this bundle, and you can extend it also further. So, if x belongs to if this x small x belongs to the consumption set capital X then all the consumption bundle that lie on a line connecting the original consumption bundle to origin would also be would also belong to the same consumption set and why did I extend because I can add x with x, I can add x with a fraction of x. So, all the bundles on this line starting from origin, they belong to this consumption set fine its clear, is it very abstract for you guys, its fine it is not very abstract its clear. So, now let us focus just for time being not just on consumption set because we are interested in convexity what is the property of convexity. So, let us take any shape. Let us say this is a set, I am talking about, this can be a consumption set or this may not be a consumption set. Do you think this set is a convex set? It is not convex because let us take an element here and an element here the two elements that I have selected here and here they belong to this particular set. But their linear combination and what is the linear combination if we draw a line through them. Here most of the bundles on this line do not belong to the same set that is why this set is not a convex set. Convex set means that any two points we pick and we connect them using a line, straight line then all the elements on that line should belong to the same set then the set is convex or set exhibits the property of convexity. For example, when we take a perfect circle although it is not very perfect drawing, but you understand what I am trying to say, any point you take here, here and you connect them, all the element on this line or this line completely is in the circle. So, circle is convex fine. So, now, we have learned about some mathematical property of consumption set and those properties are that first that its non negative orthant, second additivity, third is divisibility and additivity and divisibility, they imply convexity. Now, I think we have enough information. Why I talked about consumption set because preferences are defined over consumption set, it is defined on consumption set. So, that is why I talked about consumption set.
Microeconomics	Lecture09_DemandEffect_of_Substitutes_and_Complements.txt	2 reasons that we have figured out, why demand is a downward sloping function because availability of alternatives and. And marginal. And diminishing. Marginal utility. Marginal value 2 reasons. So, let us talk about just little bit of digression, because I want to talk about. I want to define availability of alternatives. This term alternatives, I want to introduce 2 terminologies: substitutes and complements. 2 terms what is a substitute? Let us say, let me write it good x is a substitute of good y, if everything else is equal, an increase in price of y causes a consumer to buy more of good x. So, good x is a substitute of good y if everything else is equal; ceteris paribus whatever we are talking about is ceteris paribus. So, let us ignore this clause, just to read it clearly good x is a substitute of good y. If an increase in price of y causes a consumer to buy more of good x. Can you think of a such scenario. Coffee to tea no, no. Coffee to tea. No. No think about it again coffee to tea, yes let us say let us take an example tea and coffee. Let us say at present ,price of coffee is 5 rupees, price of coffee is 5 rupees and price of tea is 4 rupees by the way this is the amount you pay when you travel in train for a cup of coffee and a cup of tea. Now we do not know the taste of a particular individual but let us say that at present he is buying coffee. He is not going for tea he is buying a cup of coffee by paying 5 rupees. Now, let us say the price of coffee increases from 5 to 6. It is a possibility, it is a possibility that he would still buy coffee 5 to 7, 5 to 8, 5 to 9 there will be a one point when he would shift from coffee to Tea. Tea. Unless he hates tea completely, but we are talking about a generic person. We are not talking about a very individual kind of a person, a very generic person. So, what is happening that increase in price of coffee causes the consumer to buy more of good x, good x is here Tea. Tea. So, the consumption of tea goes up, because price of coffee has increased. So, coffee and tea are substitute, another close substitutes are Pepsi and coke. Pepsi and coke sir. They are close substitute. They are, let us say if they are priced equally maybe some of us like Coke more some of us like Pepsi more. When typically, when there is another reason economic reason would explain why they are priced equally always in the market, but that is for some other topic not today. So, let us imagine when Coke and Pepsi are not available for the same price. The relative price will affect your buying decision. And if price of Coke goes up, definitely on average sale of Pepsi would increase; it means more and more people would consume Pepsi. So, coke and Pepsi are substitute. similarly let me raise this. Similarly, we can define complements. what we have to do, everything would remain the same, let us change it. Let me change it here good x is a complement of good y. If everything else is equal and increase in price of y causes a consumer to buy less of good x, that is the only difference, less of good x. Now can you give me an example of complement, an example where 2 goods are complements; bread and butter? Bread and butter right sir. Bread and butter. If price of butter goes up most of us do not take bread alone, we always you know most of us put butter on our bread slices. So, a price of butter goes up our consumption of not only butter, but also of bread Bread. Would go down. Go down. So, that is why bread and butter are complements. We will study these things in more detail. Coming back to the demand function. So, what we have learned that, Q is a function of price. Let us say put here banana, it does not matter b can be c d anything. This is just a recap that what we have learned that, Pb goes up Qbd comes down, but we have also learned just now that Qbd is not just the function of its own price, but it is function of the price of complements and substitute and if I remember you were saying that income also affects the buying decision. So, if you want to describe Qb, quantity demanded of banana is not only a function of price of banana, but also it is a function of Students: Input. Many other variables, again I know, again I am writing without knowing with certainty just for illustration purpose that quantity demanded is the function of price of banana, price of guava, price of milk, if you like banana with milk and it may not depend, one has to collect data. That is why in the earlier class I emphasized the role of data, we cannot say right, this is just a theoretical construct that I am saying that the quantity demanded of banana depends on the price of banana, price of guava, price of milk and probably your income and some other factors. let us say f, just you know, but this is a theoretical construct to really know about the demand function, one will have to collect data and analyze that what are the factors influencing your buying decision for banana. It is possible that price of milk may not affect your banana buying decision. But this is just a theoretical construct. So, if I write, let me just write one such theoretical construct and I want you to figure out by looking at the equation, whether banana and guava are complement or substitute. And let us say it does not depend on income and factor, other factors. Just 3 or I can say, just leave the income out, does not matter. So, what do you think? Substitute substitutes. Substitutes, how about you? We cannot say there are 3 possibility; there are 3 different answers you can give, one that they are compliment, they are substitutes and, third we cannot figure out looking at the equation. Substitutes. Substitutes why. Sir as the price of guava increasing. It is increasing the demand, yes sir So that is why we this is just by definition guava and banana are substitutes. So, if let us say if instead of plus if we had it as minus then. Complement. Then they would be compliment but let us stick to the plus sign for time being. Now remember when I started talking about the quantity demanded of banana what we said that we would vary the price of banana, and we would see its impact on the quantity demanded of banana, we said everything else would be fixed or held constant. So, let us say for example, we held price of guava constant at 2; it means what we are talking about is demand function is 15 minus 0.25 Pb plus 0.5 multiplied by 2 or in other words we are talking about 16 minus. 0.25Pb This is the demand function we are talking about. Can you draw the demand function, try to draw again, when we draw the demand function, what we will have? We will have quantity of banana on x-axis, price of banana on y axis remember we are taking the price of guava fixed, we are taking price of guava fixed. So, how can we draw. Here if you pay attention and if you know a little bit of coordinate geometry this is an equation of a Straight line. Straight line. So, when you know it is an equation of a straight line, you have to figure out 2 points on this line, and then just joining them would give you the graph, but if you do not know that this is the equation of a straight line, what you need to do is to draw a table. And what you can have here is, here you can have Pb here you can have Qb. Qb. So, when let us say, let us do it just an exercise let us say when price of banana is 0 how many, how many bananas do you demand in the market? 16. 16. When you have let us say, let us do it, you know we cannot draw the infinite point let us just do 3 points when price of. Banana. Banana is 4 how many units will you demand? 15. 15 and then similarly if you have let us say 64 how many units will you demand? 0. 0 and similarly you should draw a bigger table with more numbers, if you want to be more sighs about your graph. So, how would it look like, let us say Pb is equal to 0 Pb 0 on this line. So, here we get as 16, and when it is 4 it is 15, and when it is 64, we can match like this here it is 64. Fine remember that is how we get the demand function on the graph of the demand function. Now, what I want you to do to continue with the same equation it was 15 minus 0.25 Qb plus 0.5Pg P. G. This was the equation we have used, and we started with pg equal to 2, but now what I am saying, let us say that the price of guava has changed from 2 to 4, 2 to 4 what we will get? Now let us rewrite it, what we get here 15 minus 0.25 Qb plus. 2. 2, and here we get 17 minus 0.25 Qb remember earlier this number was 16. So, this number has changed. So, what we get is a new demand function; it is not the same demand function we get the new demand function, and similarly, you can draw a table if you draw, remember this is what we had earlier 16 here we had 64 this is Pb this is Qb. If you draw this what you will get here 17 and here? 68. 68. 68. So, what did we observe? We observed a shift in the demand function. We observe a shift in the demand function. Why did we observe the shift in the demand function? Because price of guava changed in the market. Now let us understand the difference between movement along the line, movement along the curve. Shift. And shift of the curve. These two are two different things, when the price of banana changes while everything else is fixed, everything else is held constant then what do we get, we move along the curve, like price of banana is changing from 0 to 64, we move along this curve. But when price of guava changes, when price of guava changes then we get a shift of the demand curve. So, it is very, very important to understand the difference between movement along the curve and shift of the curve. When we are talking about a demand function we are talking about all other things are held constant, and we are talking about a relationship between price of a good and the quantity demanded of that good if price of that good changes of course, quantity demanded would change in most of the cases, and what we will observe is movement along the curve. But if it is the price, if the price of not the good that we are talking about changes then we are moving out of this construct that all other things are held constant, we are changing some of those things, and then we do not get movement along the curve, we get a shift of that curve, we obtain a completely new demand function.
Microeconomics	Lecture89_Economic_Terminology_Economic_Profit_and_Accounting_Profit.txt	The second concept that we are going to talk about is the economic profit business profit and accounting profit. Remember when I was talking about opportunity cost, it is kind of an implicit cost or hidden cost is not it. Yes sir. It is not very clear ok. So, one way to say what is implicit cost the cost that does not involve monetary transaction and second let us talk about explicit cost. It requires monetary payment that is clear. Now you can talk about economic profit as well as accounting profit. Let us say that you have after graduating from this institute, you decide to start a business, and let us say you are from just for example, that you are from Kanpur, and you own a big a house here and you decide to operate this business from your own house. Let us say to run this business run this business, you invest your 5 lakh rupees you invest your 5 lakh rupees and you also hire a worker fine you hire a worker and you pay total let us say 5000 rupees per month to that worker. Fine and you need to let us say let us make a business you know you have you sell cloths. Let us say your total revenue is your total revenue is 3 lakh rupees and the cost is that you bought 2 lakh rupees worth of or rather. So, it is the first month of operation. So, do not worry about it or you can make it 5 crore to look it really nice and it is revenue is 3 crore and; 3 crore is a; It is not 30 lakhs. So, let us keep it sorry let us keep it at that level and cost of this cloth is 290,000 rupees, fine. Sir where has he invested then in hiring a worker? No, he has hiring. Common. This he has used this he has used as caution money that he has to pay to operate. Fine and let us say the cost of electricity that is 5000 rupees how much do you think is his profit? Rupees 5 lakhs; 5000. 5000. loss. How much is his profit let me ask you how much is? Thus 0 0 minus 5 is he is making a loss of 5 lakhs 5000. No 5 lakh is the caution money that he would get back. Ok. That he would get back. Ok so. Caution money typically you get. He is making no profit. The operation. He is making no profit. So, this is not a sunk cost. Sir, electricity. Electricity 5000, sorry 5000, it cannot be of 5 lakhs 5000 per month. Sir 0. 0. 10,000. 10,000. Revenue minus cost. Revenue minus this is the cost of. Sorry it would be 000. It is 0. So, what you are doing basically is, that you are looking at revenue and you are looking at the total cost is 290,000 rupees plus 5000 and plus 5000. By the way, look at these costs, these costs are explicit costs. Explicit costs. So, and this is what you enter in your account book. So, this is your accounting profit, it is 0. But what we are missing is, some of the implicit costs what are those implicit costs. So, this man. Typically, this also is taken care in the accounting book. That this is 5 lakh, and you would earn let us say of course, you will have to make an assumption, you will earn typically let us say 10 percent then how much is the cost? Not 10, 1 percent monthly let us say 1 percent monthly then it is 5000. 5000. Then you are making accounting profit of. 5000. Minus 5000. Sir we are earning on that caution money, or we are losing? We are not earning on the caution money we are losing. Ok losing. You are losing you could have put this money in the bank that is the; Opportunity. Opportunity cost. So, business would take care of it. So, the; this is minus 5000 rupees is it clear. But how about economic profit? What we do we take accounting profit and we subtract. Opportunity cost. Implicit costs and what are the implicit costs? Opportunity cost. Opportunity cost because you are I assume here that you are running the shop. You could have earned let us say if you had taken one of the jobs that placement office offered you, you could have earned some money in per month term. That you are foregoing. So, when we calculate the economic, let us say you could have earned 25000 rupees per month. So, now, economic profit here in this case is. 30,000. Minus 30,000 rupees. And sir, even their interest on that cost of shirt shirts. For that here we are assuming that there is no interest or anything in that case No, no, 290,000 I have put in the bank also, no, if I had that money. But here you are you are already earning the revenue here see what you are assuming is that I understand your question, just to clarify what you are assuming that you have paid 290,000 rupees to get the shirt and then you are selling it that is what you are assuming. To keep it simple you say that you do not need to pay anything for the you know in the beginning of month to get the shirts towards end of the month once you realize your revenue you mean let us say the revenue realization and payment for the shirt both are taking at the taking place at the same time just to keep it simple, but if it is so, happening that in the beginning you have to pay for the shirt typically that is what I am talking about is the common practice. Fine. So, in that case, you will have to include the interest that could have been that could what you could have earned on this payment, but typically let us say here we are assuming that you are not spending, and that would be your economic profit. Here in this case, it is minus 30,000 ok. So, what we are saying just for example, like let us take a mom-and-pop shop and a person is selling and he has his accounting profit is 10,000 rupees after paying for the worker, after paying for the all the raw material and all the inputs what we also need to consider that, what he could have earned if he had worked outside his business. And that is the payment for that particular person that also needs to be taken out. Typically, in accounting book that is not mentioned; you understand the difference between economic profit and accounting profit. So, when we say that there is no economic profit what we mean is that, after we take care of the opportunity cost and all nothing more is left. Just let us take an example, here we have a firm capital is rented from outside and labor is provided by the owner. And when we say this venture is turning out to be 0 economic profit, then the first question that people ask that then why he is working in his shop. So, how did we calculate? Because shirt. What is the cost? The cost is r multiplied by k that is the rent. Rent On the capital and also ways that he would pay to himself. When we talk about accounting profit what we are doing? We are calculating P multiplied by Q that is P is. Price. Price Q is the quantity P Q is the total revenue minus r multiplied by K. That is the payment for the capital, and this is typically. Accounting. Accounting profit. But this is not economic profit what is economic profit P Q minus r K minus. Minus w L. W L this is implicit this is hidden he is not being himself and then this you will get as economic profit is it clear. Yes sir. Very-very clear, the next we are going to talk about is cost versus. Benefit and cost here as he was saying what we do? We keep this benefit this is that accrues to a person. And cost is what you incur and typically this benefit has nothing to do with the cost , but what we are precluding is a scenario where let us say your utility function depends on the how much money you have paid for that particular good. In that case, these 2 are not independent, what we say that you get pleasure because you consume a particular good not because how much you have paid for it, in that case, we keep benefit and cost separately, fine. So, what we have to do is, whenever we decide let us say we have a bunch of activities let us say x 1, x 2 there are n activities you can do, which activity will you pick what you need to do basically is, to figure out benefit for each of these activities B x 1 to B x n and what you need to know is the corresponding costs. Again, in economics, we always talk about we always consider the opportunity cost. Opportunity cost. Always it is the opportunity cost that we talk about not the accounting cost, and then what we need to do is, we need to figure out B x 1 minus C x 1 and so on and which activity will you pick the activity? Which has B x n minus C x n. Which has highest value of. B x 1. B x minus C x i. C x i And once you pick the activity, what would be your opportunity cost\|? The. Or picking this activity? The because the value. Because now you do not have just 2 options, you have more than 2 options. So, which what would be your opportunity cost of choosing activity i? the summation of all the other, the value of the second maximum. The value of the second maximum because you cannot do all others at the same time; so, it is the cost of best alternative forgone. So, you have to figure out the second most. Beneficial. Second most beneficial activity in the net term and the value associated value, that you would have gained if you have participated in that activity would be your Opportunity cost. Opportunity cost.
Microeconomics	Lecture81_Production_in_Long_Run.txt	Now, let us what we have done we have been talking about production function in short run or production function in one variable. Let us make it little bit more complicated and more realistic in that manner that. Now, we have you can say in context of in this particular problem that production function in long run or another way to put is that production function is in more than one variable and in our particular case that we are talking about we have two variables fine. And we have already talked about it earlier then what we will have here is K L and on z axis we will have Q and it would be quite complicated even doable, but complex to represent it visually in 3 dimensional graph. So, what do we do we use isoquants ok. We use isoquants to represent this production function. Function. And what we have here is L and K and we get rid of this particular axis ok; we basically get rid of this particular axis and what do we do? We draw level curves. For different level we what we try to figure out the combination of K and L which would efficiently produce that particular level of output and that is we get isoquants. These are isoquants let say it is Q naught, it is Q 1, it is Q 2 level although notice that these looks very similar to indifference. Curves. Curves or this graph looks a I can change here instead of K and L; I say we have two consumption goods x 1 and x 2 course it looks like indifference. Map or a set of in difference curve, but of course, now we are talking or production; So, we stick to K and L. Fine now let us say. So, it should be L. No, it should be L of course, so, fine now let say if we increase the amount of L we increase the amount of L while keeping K fixed let say here we have L. Sir earlier it was LK curve or KL curve? LK all everywhere we have been drawing LK curve. That is L is 1 x axis. L is on x axis typically again nothing is you know sacrosanct about it, you can put K on x axis and L on y axis, but this is the convention typically we use, but like it is not as sacrosanct as what we have in the demand curve; in demand curve we will always have? Price in y axis. Price on y-axis and quantity on x-axis here, this is also convention but that is not we are not that particular about it nothing would change if we change the axis fine ok. So, what will happen here? Let us say if we increase the labour from L naught to L naught plus 1 what will happen? Of course. And we keep the K fixed at K naught. So, here what we are doing earlier we had Q naught amount of output with L naught and K naught amount of cap labour and capital respectively. Now what we are having we are increasing L to L naught plus 1 and K naught, what will happen to Q naught? Q naught will increase. Increase. Let say that is Q 1 fine; So, of course, what we will have basically is if we. So, this combination of K naught and L naught 1 will give a different level of output. Output. So, that let say we have drawn like this fine now here this is Q naught and this is Q 1; Q Q 1 is of course, more than Q naught why? Because we are assuming that marginal product of labour at this level is greater than, greater than 0. 0. Greater than 0 that is why it will go up eventually remember in the table that we have had talk talked about that marginal product of labour falls below 0. But we are not talking about that case ok. So, we move from here to here fine, to bring back you know with this increased amount of labour and we want to produce the same amount output as earlier what do we need to do? We need to reduce the amount of? Capital. Capital we need to reduce the amount of capital and we will bring by thus we will buy if we reduce the amount of capital in this particular manner; we will come back to this Q naught isoquant. Is it clear ok. So, what we are talking about basically is that there is a tradeoff between these two inputs of production ok. If we increase the amount of one, then by decreasing the amount of other in one particular you know by particular amount we will come back to the same production level. And something similar we had talked about earlier using this we had talked about the slope of isoquant. Here we are not talking about exactly the slope of isoquant, but let say here what we do let say this is delta K. So, delta K what is happening basically that K naught minus delta K minus K divided by we are taking this particular length and here we have L naught plus 1 minus L naught we get this particular slope. 0 1. This is the slope of this line we obtain. Sir this is 0. How come it 0? K naught plus. This is minus K divided by 1. This is what we get. That should be K naught This is K naught. Yeah fine? And what is this? MRTS. MRTS, we have not talked about it, but this helps us define a new term here and that is marginal rate of Technical substitution and what is this? Look at it here look at this here what did we do? We have substituted 1 unit of labour for some amount of capital; we have substituted some amount of capital that is delta K amount of capital by 1 unit of labour, this is basically defined as marginal rate of technical substitution. So, in more general case here we are of course, taking change in labour is 1 instead of talking about change is labour an 1, we can talk about delta L change in labour. And delta L if we increase the labour by delta L; let us say the capital needs to be decreased by delta K amount to bring the output at the same label in that case delta K divided by delta L will be defined as marginal rate of technical substitution, in short MRTS. This is also called rate of technical substitution; you can get rid of this marginal term; it represents the same thing ok. You can either say MRTS or RTS fine; remember this is very similar to marginal rate of substitution. Substitution. That we have learned in the consumer theory and what is marginal rate of substitution slope of? In difference curves. Slope of an indifferent curve and what is MRTS basically? Slope of MRTS is basically the slope of? Isoquant; isoquant. Of an isoquant, but in this form this is not the slope of isoquant, when do we get the slope of isoquant? When we take delta L. 10 to 0. To 0 then instead of getting secant, this is the secant here; we get tangent at this particular point. And then we say then we can say delta K by delta L that is nothing, but taking the limit of this in this expression limit delta L going to 0 and this is the slope of the Isoquant. Basically, this is the slope of isoquant and what does it give? What is the economic interpretation that it gives the tradeoff between two factors of production? So, that we remain on the same isoquant. Here of course, we have only two factors of production, what will you do if you have more than two factors of productions? So, what you will do, you will keep all other factors fixed and you will change only two factors of production. In trade off rate that you are interested in and then you will get the marginal rate of technical substitution with respect of one input for the other input that these two inputs you have varied fine; is it clear ok? And this is very very important as we have learned in the earlier chapter that how important MRS is; what does MRS give just for just to you know the tradeoff that in your mind that you are willing to accept and at the optimal level that trade off should be equal to the market trade off market allowed trade off. Here again we will talk about remember we are talking about producers and what they are interested in? They are interested in making profit. So, of course, they are interested in producing something and here we have two factors of production. So, later on we will learn that the particular combination, let say they want to produce Q naught amount of output; they can take any combination this combination, this combination, the infinite combination according to this isoquant are possible. So, which one they will choose of course, it would depend on the prices of these two factors. And there you will see that MRTS place the very similar role that MRS pay played in the consumer theory, but that is for later we will come back to it later.
Microeconomics	Lecture75_Few_Axioms_Related_to_Technology.txt	Now, let us talk about some of the axioms that technology typically satisfies ok. Some axioms or properties, you must have noticed by now that in economics we have tendency to convert everything into mathematical notation, mathematical symbol. It is not necessary, it is not compulsory. But the thing is that when you convert it if the things in the language of mathematics the life becomes easier. You know you can you have mathematical formulation and all you have rules and logic that you can use from mathematics to solve the problem and after obtaining the mathematical solution you can revert it back in the economic setting obtain the economic solution also ok. So, that is the typical process. So, the first is the production set is non empty, what does it mean? We can produce; we cannot produce anything or nothing. No, that it does not mean. If we are putting into. By the way production set is typically denoted by capital Y, this is typical way to denote. So, Y is not equal to. 0 phi. 0 y is not equal to phi. Phi What it means is that whenever we talk about production set, something can be produced. We are not talking about a scenario when nothing can be produced and if you think of, in a life of course, there are various things that cannot be produced, then we can we will not talk about it, what is point of talking about it. So, here simply this is a mathematical requirement that we have mostly we will talk about mathematical requirement. Here, it means that this is not empty there is no, you know the no combination, that is not possible. Whenever we talk about production set, it is non-empty. The second is the production set is closed, what it means is that production set has some boundary. Some boundary or it or some boundary or it continues to infinity, then you do not need the boundary. Sir, closed in sense fixed boundary there. No, for example, this is closed this is the production set. So, it is bounded here, it has boundary here, but there is no boundary on in this side, this is also a closed. We can close it on 1 side like. Mathematically. So, and this is again mathematical requirement because we will talk about maximization and all. So, this is a mathematical requirement [FL], third what you were talking about is that there is the word that we use you will hear it from economist again and again that there is no free lunch. The rule is called or axiom is called, but there is no free lunch, what it means is that if you take an element of this production set you cannot have only positive numbers, you cannot have an element like this in the production set. What does it mean? That everything is output here, nothing is being used to produce this output. So, that is not possible, at least 1 would have 1 should have a negative sign. So, basically, what we are saying, nothing can be produced from thin air, you cannot conjure something, Harry Potter system would not work that is what basically we are talking about, that we are ruling out ok, it is not possible ok. In other words what we are saying is that this is the production set and if we take the intersection with the positive r th n at max we can get only 0 is it clear fine ok. 0 See we can ignore all these axioms and still, we can learn about production theory and that is the typical way to go about it, but what we are doing we are learning the basic we are not assuming things out because when we do the maximization, profit maximization. To do the profit maximization some properties have to be satisfied and these are the properties required to do the profit maximization, that is why we are learning about it in very brief not in detail ok. Then free disposal, what is free disposal? Means if you have let us say a production process just for example, when we have 1 output and 2 inputs, let us say 1 comma 2 is leading to 1 unit of output. So, at 1 unit of output can still be produced by 2 comma 2 because what we are doing we are freely we are disposing 1 off, 1 unit of good one off what we are assuming basically that disposal is cost free. There is no cost in disposing off some of the inputs, but let me tell you in real life this gets violated. Sometime it is costly to throw something out not in the emotional sense, but in the real sense you have to pay someone, like if you just disposal is not free ok. So, in that sense, but it is an assumption that we typically make and free disposal of course, here I have talked in the context of production set fine. Here we have talked in the concept in the context of production set, if we take the same concept in the production function what do we get, assume a property that we have learned earlier in context of consumption set, monotonicity. Let me show you how, what it means is let me define it a technology is, a technology is monotonic if it gives out at least as much output as in the earlier case after an input is, an input is increased fine. In mathematical notation the partial derivative of output with respect to one input should be greater than or equal to 0. 0. Isn’t it related to free disposal, not exactly the same, but related this free disposal ensure that at worst this is going to be equal to. 0. 0 fine ok.
Microeconomics	Lecture20_Total_Surplus.txt	Now, we can give the definition of total surplus and what is total surplus. Total surplus from a transaction is nothing but the summation of consumer surplus and producer surplus, let me write consumer surplus in short as CS and producer surplus as PS, TS that is total surplus is nothing but the summation of consumer surplus and producer surplus. Let us look at it in a diagram, what we have here is an upward sloping supply curve and downward sloping demand curve. Demand curve. And what we have here is quantity bought and sold in the market and the price at which these quantities are bought and sold in the market, can you tell me the producer surplus as well as consumer surplus and total surplus? Sir 0. 0 which see why you are saying 0 and that is wrong. Let me tell you but this is a common misconception that if someone is gaining something, then the other person must be losing, that is why you are saying 0; that is why it immediately came without thinking you said immediately 0 because in our mind we consider all the transactions as 0 sum transaction but that is not true. What is happening here just for example, let’s say for a seller for the first unit of banana he can or first unit of face it does not matter for any good the marginal cost of coming up on that good is let us say 5 rupees and for the first, you need someone somewhere in the market is willing to pay 50 rupees; if a transaction takes place between the seller or and the buyer what happens, by the transaction they create a value of worth 45 rupees because cost was just 5 rupees but benefit is 50 rupees and how its distributed between consumer and producer it would depend on the market price. So, let us say here in this case for transaction here, transaction right here at this point when Q is very near to 0, the gain is almost this much. So, the total gain I can say is this whole area. total surplus This is the total surplus. People are gaining from the transaction; I think it would be easier if we use the step function to understand rather than using the continuous function. So, let me draw, this is the demand and there is something wrong with this graph, it cannot be like this. Intersect at the corner. It will always intersect ok. Corner. This, let me say just, this is the demand function, and this is the supply function, for the first unit what does this say? The marginal value of the first unit is this much and how much is the marginal cost only this much? So, when this wood is sold in the market it creates value for the society equivalent to the difference of this to height, similarly for the second unit the value created is equivalent to this difference, and for the third unit this difference. So, how can we get the total surplus by adding this and this? So, transactions are not always zero-sum, its positive sums, because why someone is selling something in the market? Because. Because he expects to get some benefit from the transaction and why you are buying it, you also expect to get certain benefit from that transaction. So, just when the transaction is taking place it means at least you are earning either 0 or something more than 0, another person is also earning in monetary terms either 0 or greater than 0. So, the summation can never be you know negative, it will always be 0 and most of the time great, it is not always 0 it will be at least 0 or something greater than 0. So, transaction is creating value in the market and that is how we calculate the total surplus; of course, how much is the consumer surplus it would depend, if market price is here then let me erase these things. If market price is here then only this much is consumer surplus and remaining is producer surplus. Producer surplus. If market prices here then you will have more of consumer surplus, but right now when we are talking about total surplus, what we are talking about is the sum of consumer surplus and producer Surplus. Producer. So, transactions, never ever forget transactions take place in the market because it makes seller as well as buyer better off not just one of them; otherwise you would not participate in the transaction. Now, so let us take an example where we will calculate the total surplus. So, let us say here we have by looking at the equation can you tell me whether it is demand function of supply function. demand It is inverse of demand function or demand function and then we have here 2 plus Q. So, let us draw it, this is 2 this is 10, if you solve it by now you should be able to solve it quickly, how much is the equilibrium price? 6. 6 how can we get the equilibrium price by equating these 2 equations, by equating these 2 equations we will get the Q star, and Q star is equal to 6, Q star is equal to 4. 4 sir. And by putting 4 in one of these 2 equations, we will get the p star and how much is the p star 6. 6 Fine, so now we can calculate the total surplus, first we can calculate the consumer surplus; how much is the consumer surplus area of this triangle and how much is the area of triangle, half multiplied by base multiplied by height and how much is the base? Base is starting from 0 and going till 4 . So, base is 4 and how much is the height? 4. Again 4 and how much is equal to. 8. Total 8 so consumer surplus is equivalent to 8 units, how about producer surplus? 8. So, again you can calculate half multiplied by base multiplied by height and here again, you get 8. So, how much is the total surplus? 16. So, we can say just because this transaction takes place 16 units of value was generated for the society. Society has gained this16 units, this is total surplus is also in a way total gain for the society.
Microeconomics	Lecture72_Towards_Producer_Theory.txt	Let us begin a new chapter, we have learned about consumers. Now another important side of an economy is producers and we are going to learn about producers today, in the chapter called producers theory. So, just let us look at, you know simple production process, what do we mean by production process? Something like transformation. Like for an example that what we have here is seed, water, may be fertilizer, labor, may be some machines, machines such as tractor, flour things like that and then they come together. Here I am not this let us call this a black box, something happens and then what we get is, crop ok. Another example just for, let us take another example, what we have, probably you will be more familiar with this, is what we have some sort of labor may be physical as well as knowledge. Then we have some computer hours and we are able to write or these people are able to write some code or in other words software ok. I am taking two very different example; crop is some is a physical product, while software is not a physical product ok, its, but the process is very similar that some inputs are coming together ok, what is happening basically, that we have some output and how do we get. We have number of inputs come together somehow, because probably here a labor is bringing an entrepreneur. We can add entrepreneur as another production factor, is bringing all these thing together. And in and they are combining in certain particular way and what we are getting, we are getting output ok. If you pay attention to these two examples, these two examples are very different, the processes involved are quite different ok, but in economics we are going to generalize. What we are not going to talk about as per say; of course, I will give various example using crop or software or any other production process; such as that by using bauxite and electricity, water you get aluminum, we are going to give lot of example, but the focus will be on this black box ok. The focus is going to be in this form that we have inputs some, something is happening here and then we are getting output ok. This, the black box. By the way you may have a different meaning of technology in your mind, but this black box in economics is called technology. This is technology basically which is transforming inputs into outputs or may be 1 output or various different outputs. So, the technology is that black box. So, when I talk about technology, I am not talking about smelting process or agriculture or software production. I am just talking about the way that inputs can be combined and an output can be obtained. So, in a very general way, in a very abstract way we are going to talk about technology. And technology here is simply its transformation, transformation of inputs into an output or more than 1 output, its related to, its that is what technology is ok. Now, there are various ways to represent this technology and we are going to learn some of the ways to represent it; one I have already written here. If you look at it that output is a function of several inputs. So, in this case this function is the technology. Why I am calling it technology? Let us be clear about it, its not something quite its not very different, it is the same thing just the different use. What do we do? we take let us say for example, we have 2 units of bread and 1 unit of butter and then we get, we get a sandwich, one sandwich. This is what we get. So, this is the production process and we can combine inputs only in a certain particular way to get some output. Its not like if we can bring anything and get anything out. These are constrained by nature, these are constrained by our available knowledge ok. So, nature is the, its technology is nothing, but nature, nature’s man made, men made constraints on production. So, the in that sense we are using the technology ok. So, one is of course, production function that we will use. Fine. We, I am starting with the simplest one, this is very very simple that is what we will use first and then we will get into the more difficult ones ok. Fine, but before we, just excuse me for a moment before we do that let us learn about firm also. What do we mean by firm, what is the firm? Firm typically here of course, here the production process that I just talk about production of a sandwich; it can be achieved in a household also. At smaller scale crop can be produced by one household. Software also can be written by one engineer in isolation, but if you look at the way the world is functioning what is happening, that large number of inputs are coming together ok, large number of people are also people as inputs are coming together and they are participating in the production process. So, what is firm, what is a firm? Sir it is an organization. An organization, let me just write the key word organization that effects the production. Production. That effects the production or that carries out the, out the production; that is one way to think about a firm. Any other way. Firm in a way is nothing, but the physical manifestation of, manifestation of technology. See here what you are looking at, how the firm is organized. This is, you are defining a firm based on its organization. Here you are defining firm based on its function. So, physical manifestation of technology. And of course, we can think of various other way. Again when you go into the organization, it can be hierarchical, it can be horizontal, it can be democratic, it can be, it depends on its function. So, firm is organized in a different way. If that is a little more difficult topic to handle in the preliminary course. We will of course, if you study economics further you will learn about the firm as an organization, in a in a course called industrial organization. In this introductory course we are going to think about a firm as physical manifestation of technology, whenever we use firm its nothing, but collection of technology; that is being used to produce something to achieve certain goal. We have not talked about the goals yet, but you all know that typically the firms strive to maximize their profit. So, that is the aim. So, that is the way we will take the firm. Fine, in that sense we will use the firm and basically you can say this black box is the firm and it is technology as we said, and we have inputs, again I am emphasizing it and here we have output. Now, can you name some different kind of inputs, not just the particular input the different classification of inputs that you can think of. Labor capital. Labor capital that is a very traditional. Raw material; material raw materials. Huh. So, let us start with the raw material. So, rather than saying raw material we will say natural resources ok. Natural resources what we will have in the natural resources; land, it is not a raw material, but it is one of the natural resources that we use to produce; land, water, minerals, oil, wood. You can think of many more natural resources provided by nature typically. The second as you mentioned is labor. Labor typically we can think the physical labor, someone is providing hard work, you know doing something that is physical labor or someone is providing knowledge; physical or knowledge based, physical let us put one more physical, knowledge, and one can also bring the third kind of labor, but typically that some people keep it separate. So, let me put here as 2 dash entrepreneurship ok. What is this? That this is entrepreneurship is basically that brings all the all the other inputs together to get certain outputs, but this is nothing, but a form of, you know some form of labor Managers. Man managers are ok. So, let us put it 3. Now you talked about capital, I will put it here in the category of manufactured inputs and what are the manufactured inputs, the inputs. machines, technology. Technology we are using in a completely different sense. Technology is not an input, at least the sense that we are using here. Technology is the transformation. It is a machine Machine is manifestation of some technology, but again let me warn you when we use technology in economics, it has a particular meaning; that is what I was trying to define right in the beginning. The technology is something that combines all the inputs and produces output. Output. So, technology is that black box, technology is that effecting the transformation ok. So, we will not put technology here, we are using it in a completely different sense. So, what we have here is, the inputs. Machines. That first need to be produced, not generally available in nature ok, need to be produced and then we have that that is kind of and then and then it can be used in the production process, and what we have is, machines typically and other term that we used is capital, but I have deliberately separated it here, I did not put here capital I wrote manufactured inputs, because capital is sometime used in a sense. Monetary sense. Physical capital that we have used here and sometime he used in the monetary or in the financial sense, financial capital, and financial capital is also, financial capital is also important to run. Business. A firm, run a business and. In fact, it is in a way manufactured inputs, because someone is, someone has given value to the money, economy is based on you, in that sense it is also manufactured, but we should be able to distinguish between physical capital and financial capital. We can say it is financial capital is money, money used to start or run a business. Fine, that is clear. And these are of course, inputs are, we have another name for these inputs, what do we call these in all the inputs? Factors of Production Production, it just another name.
Microeconomics	Lecture10_Market_Demand_Function.txt	So, what we have learned so far is, individual demand function. Now we will move from individual demand function to market demand function. And how these two are different, let us say when we are talking about individual demand function, we are talking about a person responsiveness of quantity demanded, in terms of variability in price of that particular. Good, but let us say the in market, there are more people participating as consumers, not just one person. So, let us for example, let us take the simplest case, where there are 2 people participating in market as buyers, just 2 people and that demand individual demand function of person one is, 15 minus 5 P, again remember this q is quantity of a particular good demanded by person one, and P is the price of that particular good. As we have already discussed that demand function, is not only the function of it is own price, but also the prices of. Other goods. Several other goods and not just prices, but income of individual, and several other factors so far. But when we were talking about, movement along a curve or a demand function, what we assumed that all other factors are held constant. So, what we can say for time being this 15 is taking care of, the values of all other factors. Similarly let us say that we take the demand function of second individual, and this is 10 minus 2.5, and now we want to get the market demand function. What is the market demand function? Market demand function gives the total quantity demanded in the market as function of it is own price. So, what do you think? What would be the market demand function? Q1 plus Q2. Q1 plus Q2 do you mean that it is going to be 15 minus 5 P, plus 10 minus 2.5 P, or in other words let me write it here, do you think this is going to be the market demand function. Yes sir. Let us see, we will go to our basic principle, we will draw a table, where in the first column, we will have the different prices of this particular good. This is P, the second column will give quantity demanded, as a function of this price for individual one, similarly third column will give for second individual, and forth column will give information about quantity demanded in the market. So, let us say when price is 0, how many units person one would be willing to buy. 15. 15 how about the second person? 10. 10. So what we are going to get is. 25. 25 let us now change it to one, if price is 1 how many units person one would demand? 10. 10 how about person 2? 7.5. 7.5 and total is. 17.5. 17.5 similarly let us do for 2, 3, 4, and 5. So, when 2 it is going to be 5, and this is going to be again. 5. 5 and total is. 10. 10 when it is 3, it is going to be. 0. 0 and. 2. This is going to be. 2.5. 2.5 and this is going to be just 2.5. When 4 it is 0. 0 negative. And this is 0. 0 And this is. 0. 0 how about when it is 5. 0 0 0. 0 0 0, but when we are saying 0 0 0, it means we are not following this equation. Because if you follow the equation, and you put P is equal to 5, Q1 is going to be. Negative. Minus 10. So, it is good that you understood on your own although, we are writing Q1 is equal to 15 minus 5 P, but what we mean is, the maximum of 15 minus 5 P comma 0, demand cannot be less than, 0 why cannot be less than 0? Think about it. It does not make any sense. It does not, we are talking about your buying decision. When you are buying something in the market, you cannot buy amount less than 0. So, less amount that you can buy from the market is equal to 0. So, although we are saying 15 minus 5 P, what we mean that either 15 minus 5 P, but if it is negative we are taking it is as equal to 0, and similarly here. So now, if you draw, we have done the table let us draw Q1. Then let us draw Q2, and then we will draw Q1 plus Q2. If we draw Q1, how would it look like? Straight line. Straight line. Downward slopping. Downward sloping, Q1 is going to be 15, when P is equal to 0 and Q1 is going to be equal to 0, when p is equal to 3. 3. And as we know that it is, a straight line 2 points are good enough to figure out this line. And this is what we get. Fine, how about the Q2? This is Q1 how about the Q2? When p is equal to 0, then quantity demanded is. 10. 10 and when p is equal to 4, then quantity demanded is 0. Of course, these lines are straight line, even though my drawing says that, they have some curvature, but please take them as 2 straight lines. Now we are talking about 0, one thing what you said that we can simply add them but be careful when you are simply adding them up, because notice when price is above 3, when price is above 3, but below 4, in that zone Q1 is equal to 0, but Q2 is positive number. So, in this zone total market demand will be given by Q2 only. So, we cannot simply add them up and, why it is happening again go back, although we are saying colloquially, that we are drawing Q1 is equal to 15 minus 5 P, but that is not the demand function. Demand function is this, it is maximum of 15 minus 5 P comma 0, demand of a good cannot be less than 0. So even though we are drawing, just this line as Q1, but in actual sense, Q1 is this. Let me use a different color pen, probably that will help us. And this, this is Q1 because above p equal to 3, quantity demanded is 0, for person 1. Similarly, for let us take another color for person 2, his demand function is not only this part and this is straight line mind you, although it does not look like, but please take it as straight line. And above 4 it is going to be equal to 0. Now if you want to obtain the market demand function, we will have to add these 2 curves horizontally, what we mean by adding up horizontally, it means we have to keep P fixed, and we have to obtain Q1, as well as Q2 and then add Q1 and Q2 to get the market. Demand. Demand, the quantity demanded, at that particular price. So, we are adding, we are picking. So, let us say at this particular price, at this price. So, let us take price 2, what we are doing? We are calculating here Q2, and then Q1, and we are adding, keeping price at 2, we are adding this Q1 and Q2, and we are obtaining the quantity demanded by the whole market. But notice, if we take here price above 3, but below 4 let us say 3.5, what is happening in this case that Q1 is equal to. 0. 0 and Q2 is some positive numbers. So, when we are adding up Q1 plus Q2, basically we are adding 0 plus quantity demanded by person 2, at that particular price. So, quantity demanded by the whole market is just, quantity demanded by person 2. So, we cannot simply say this, this is wrong you know because, we have to be careful about it, because this we are getting because we are thinking our demand function is 15 minus 5 P, and 10 minus 2.5 P, that is wrong our demand functions are maximum of 15 minus 5 P comma 0, and maximum of 10 minus 2 p com 2.5 P comma 0, and we are adding these two up. So, be very careful. So how it is going to look like? It is going to look like if, so what we had basically, is something like this, and now we want to get the market. So, till this point, this is the market demand function, this is 3 this is 4, this is 10 this is 15, and from here what we need to do, we need to superimpose this curve, on this curve. So, it is going to look like, we have to do the parallel shift, it is going to look like this, and this is going to be equal to 25. So, in this zone in the earlier page, you were saying 25 Point 7.5 P, in this zone it is going to be 25 minus 7.5 P, but in this zone, it is going to be. 10 minus (Refer Time: 11:42). 10 minus. 2.5. 10 minus 2.5 P, and in this zone, it is going to be 0. So, market demand function if we want to describe it completely; market demand function we can write it like this, 0 if p is greater than or equal to 4, is equal to 10 minus 2.5 P, if p is greater than 3, but equal to 4, and it is 25 minus 7.5 P, for p less than 3. And that is how we get the market demand function, be very careful about it, just do not do plane addition.
Microeconomics	Lecture63_Demand_Revisited.txt	Now, we are going to again revisit topic on demand ok, but now we are going to do it using the concept that we have learned in the chapter of consumer theory ok. So, what we have learned in the consumer theory, that consumer tries to maximize his utility given his budget constraint. If I say of course, in very you know in mathematical and precise way to say it, but this is what we have learned ok. When you solve it, when you solve this you know, what do we do we solve for x 1 star and x 2 star fine. If you pay attention to this x 1 star, x 1 and x 2 are variable utility function depends on the preference of this particular person, what kind of parameter we have? The parameters are p 1, p 2 and I by the way what are the parameters, what do I mean by parameters variable given a parameter is variable, but its beyond the control of the user beyond the control of consumer in this context and also parameter parameters do not change in the short period of time. But of course, all the interesting results that we are going to get we will get by varying the parameters ok. So, what we get x 1 star is basically a function of p 1, p 2 and I and similarly x 2 star is also a function of p 1, p 2 and i. In other word consumption of good one is given as function of its price and some other parameters . Right now we are not worried about some other parameters and what is this the optimal consumption, this is the optimal consumption. If this is your optimal consumption it means that this is basically quantity demanded of good one as a function of its price, if you here if you give the value of p 2 and I and leave p 1 in the variable form what do we get the quantity demanded as function of this price. So, basically this is what demand curve. So, so far what we have been doing basically that we have been deriving the demand curve using preferences, using some building blocks that we have discussed in the this particular chapter, but the ultimate aim was to derive the demand curve and that is what we have done ok. So, can you just for example, if you go back if you have solved then goods are perfect substitute let say we are talking about 2 good worlds? Where good 1, and good 2 are perfect substitute, perfect substitute in this case the demand function for good 1 can be given as this particular function this is equal to I divided by p 1 when and perfect substitute of course, one thing I am leaving out here that perfect substitute in 1 to 1 ratio because perfect substitutability does not ensure that the exchanges 1 is to 1. So, I am saying here 1 to 1 ratio. So, this is going to be I divided by p 1, when p 1 is less than p 2 and anything between 0 and I p 1 when p 1 is equal to p 2 and 0 if p 1 is greater than p 2, this is what we observed. Student: one doubt, you are saying that the consumer things use 1 to 1 ratio, but when we use bread and butter they will be ratio 1 is 2. No, I did not say that they have to be in the 1 to 1 ratio, I am saying here that here the example that we are taking good 1 and good 2 are perfect substitutes and they are in 1 to 1 ratio. What is the definition that I gave for the perfect substitute, that 2 goods are perfect substitutes for a consumer if he is willing to exchange 1 good for the other good in the fixed ratio, that ratio can be anything 1 is to 2, 2 is to 1 anything, but here I am saying for this example that he is willing to exchange good 1 for good 2 in 1 to 1 ratio ok. In that case, this is the demand function we will get, is it clear and that is how we obtain demand function ok. So, now let see, let us do a simple experiment. Here we have, let’s say these are the indifference curve these are the indifference curve fine. They are parallel at assume them assume that these are parallel ok, now let say this is the budget constraint; this is the budget constraint. Now, of course, it all depends on the value let’s say if they are perfect substitutes their utility will be given by this equation and the budget constraint will be p 1 x, 1 p 2 x 2 should be less than I. Now, what we do we will start increasing p 1, we will start increasing p 1 what will happen, when we start increasing p 1 how would it become or you can say let us start decreasing in this scenario particular scenario start decreasing p 1, how would it look like from here we will move to this, we will have anticlockwise rotation pivoted at the maximum amount of good 2 possible, is it clear. So, what I am saying of course, I did not give you value and randomly I had drawn that p 1, plus p 2 x 2 is equal to I is going to be a straight line and I do not know where it will be I am just I have drawn something randomly, but now if we increase let say this blue line gives this budget line. What happens if we decrease the price of good 1 the, this point represents the maximum amount of good 2 that you can buy if this is your budget line and this is the maximum amount of good 1 that you can buy. So, if p 1 is decreasing and p 2 is remaining the same this point will not change, this point will not change and this will shift, and we know that 2 points are sufficient to draw the straight line. So, the new budget line is going to be like this and then it is going to be like this, and so on fine ok. From here what we are basically doing, we are varying the price by varying price basically what we are doing I just told you the mathematically, but I am telling you here graphically that we are obtaining the optimal consumption bundle. If we keep on decreasing the price of good 1, let us say in this graph it is it looks like it in this, according to this graph at this price the person is buying only good 2, but as we start decreasing the price of good one what will happen there will be a point where this person would start buying good 1 and he will keep on buying the amount of good 1. So, how will the optimal bundle look like here either in this zone or it is in somewhere in this zone after it becomes flatter than this and then what we are doing here that here we keep x 1 as it is and we put p 1 here of course, by solving it mathematically we obtain x 1 star is a function of x 1 star, p 1, p 2 and i and it. So, happen in this case that x 1 star is largely independent of p 2 it depends only on p 1. So, now we have to transplant these points in this graph and when we do it how would it look like, that above certain point we do not know let say, but we do not know it depends on value of a b and p 2. So, we can say above certain point there will be no demand ok, at p 1 what is going to happen. Somewhere from 0 to i p 1 something like this and after this what will happen something like this. So, what do we get basically the demand schedule or demand curve and how about a curve denoting the curve passing through all the optimal bundles that we have obtained by decreasing the price of good 1, if we chart those bundles then what do we get is price consumption curve, the name is price consumption curve there are other names also. So, we obtain price consumption curve, of course, this will be given by blue dotted line. Of course, here it is on x-axis, but why because on y-axis we have good 2, on all those points good 2 amount of good 2 consumed is 0. So, that is why we get all these points on the x-axis, but here on y-axis we have price of good 1, and on x-axis we have amount of good 1 and this is what we obtain. So, basically, we end up getting the demand curve fine.
Microeconomics	Lecture88_Economic_Terminology_Sunk_Cost.txt	Second; I talked about concept is sunk cost what is sunk cost? The cost that we cannot recover, we cannot get back that is totally lost. Totally lost where. Means that cannot be reimbursable. So, it is basically it is the cost that one has incurred and is not recoverable, the cost that cannot be recovered. For example, let us say although everyone is coughing at that idea people are not very happy about it let us say for example, someone prepared for j e joint entrance exam to get admission into 1 of the ITs. And he paid let us say 50000 rupees for coaching and he did not clear the JE he cannot recover this 50000 ok. Even if we cleared JE. The second scenario what would be in the first case, it is clearly the sunk cost. 50000 rupees is the sunk cost for the person who did not clear the j e how about the second person who cleared the JE? It would be more of an investment than an expenditure for him it would be a sunk cost. It is sunk cost because it is no longer recoverable. But he is getting the value out of it. But that is a different thing; when we are talking about it when let me ask you another question, I say how much is the cost of this pen? Do you start talking about how much the value you have for this pen? No, the question is very simple; how much is this cost the cost you should not this is the major problem when you talk about cost keep the revenue or the benefit that you are getting out of it, cost is different from benefit. The sunk cost is the same because it cannot be recovered, it is a different thing you know even first 1 was willing to first 1 spent that person who did not get into JE at that time he had some expectation that he would clear. So, he made it was you know at that point of time it was a valuable investment for him, but nevertheless at this present moment. Whenever we are talking about sunk cost you have to think where at what time you are talking about, the time t and this time this cost is no longer recoverable that is why it is sunk cost. Would does that mean every expenditure is a sunk cost? Not necessarily if for example, that let us say you have spent 5 rupees for this pen let us say this is the pen and you have spent 5 rupees for it. Now can I recover some money out of it? Yes sir. If I sell it let us say maybe may not in the market, but in hostel or somewhere, there is some willing buyer who would buy this pen, let us say for 4 rupees 50 paisa in this case my sunk cost is only. 50 paisa. 50 paisa; 4 rupees 50 paisa I am able to recover it. So, that is not the sunk cost. But sir then looking in that way someone clears JE, he has probably a brighter future than the other guy has That something again benefit, we are not talking whenever. Only in monetary terms you are saying. Even in any term you are whenever you make decision I am not talking about it right now, but let me make it very very clear to you. Whenever you talk about a decision, you think about benefit and cost and net benefit and that is net benefit is benefit minus. Cost. Cost. I am talking about this component this component, I am not talking about benefit or the net benefit you always keep it. Strident: Separate. Separate for example, you bought a machinery, let us say we have a setup here for recording that is taking place, and the machinery cost let us say 5 lakh rupees when this project is over NPTEL project is over, let us say there can be two things either they are able to sell the machinery in the market and second is that they do not have they do not get any buyers. In this case complete 5 lakh rupees at that point of time. Sunk cost. Is sunk cost because it cannot be recovered back of course, you will have to account for depreciation and all because machinery are must they used these machines for some time. So, sir the services they are providing are not included in this. Again services is a benefit that they are providing. Sort of they are they are not included. They are not included we are talking about the cost let us say there is no depreciation in that case, sunk cost would be the complete amount. But let us say there is a 10 percent depreciation every year and the project is over in a 1 year, then 4 lahks 50000 is a sunk cost, it is gone. Sir. Yes. One more thing sir, like if this 5 lakh rupees is spent on all the gadgets ah, but this 5 lakh rupees can be kept in a bank also. So, he might be gaining some interest on that. So, sir would that interest be included in the sunk cost also if they do not find anybody. No, no that would be the opportunity cost of buying the machinery. It would not be included in sunk cost. Sunk cost. Sir, but why we could not recover that interest also. No, but you have used you have bought them see we want to keep things simple, if we keep on adding things it would become too complicated. The sunk cost here is very simple that these machineries cannot be sold again ok. I am again taking care of that depreciation. Again you bought this machinery because that was the best use. That is why you bought the machinery. So, we are not talking about the second best; second best we are talking about when in case of opportunity cost you have already made the see this is why time is quite important. You hear you have let us say option a, b, and c, and you go for option a, because this is the best option. Now you want to get the opportunity cost of going for a, then what you need to do? You need to figure out that which is the better 1 between b and c you figure out b what would have been the value added to you, if you had opted for b and that would be your opportunity cost because you did not opt for b, that is one thing, but here you have opted for decision a. And so, you have been invested let us say something and you are here at this time you are here there is no sunk cost at this point. Now here you in the time when the you bought some machinery or something, at this point you are not able to sell this machinery. So, what you have money that you have spent for a? Let us get forget about any depreciation or that would be your sunk cost because it is no longer recoverable fine. So, the money again going back to there in the JE coaching, once you have given the JE exam once you have paid the money and the refund period is over, that money is sunk cost, right? Let us take one more example let me ask you a question. Let us say all three of you decide to go for a for buffet and you have to pay right in the beginning 250 rupees. Ok. And you can eat as much as you want whatever they have you know all the items you can eat as much as you want dream for you guys fine ok. So, then this is one case. The second case is that Mr. A, let us say in this case the A is very happy because he won some prize, and he takes two of you for the same buffet you know the buffet that I was talking earlier, and he pays 250 rupees for each of you. Ok. Now, let me ask this to you and you are of course, not the wish grabber. So, in which case you would eat more? In the first case. In the first case, you will eat more because you have paid 250 rupees how about you? Second case Second case, because your friend. I am not paying anything. Not paying anything for it. But you will eat more that because you are not paying anything. So, you will eat more? No Think about it again what do you do in such cases”/ I eat in the first case, I will eat more. You will eat more in the first case typically that is the response I get that is why I said. But practically in the. Now, let me ask you. Eat. Why would you let us say it was not Devesh who was paying for you let us say that Vaibhav paid for your buffet and in the first case you paid for your own buffet, in which case you would eat more. In the first case. First yes and what is the reason let me ask all three of you the reason why let me start with you. It is because when I am paying from my pocket, I feel the worth of it more than someone when someone else is paying for me. Ok. So, I would try to utilize I would try to maximize my utility for that. Ok you are trying you are using big words maximizing utility and you have learned it in this course good let us see how about you. Sir because in the first case 250 rupees is my sunk cost. Do not do not use the sunk cost. Ok. You know just think about me you do not know any economics, but you would do this. So, why? He may repay it sir because of the same reason because if I am paying those 250 rupees. You want to get bang for your buck more as much as possible how about your same thing? Almost same. But now let us see on this there is a gate and here is the restaurant at gate you got a ticket, you paid 250 rupees does not matter you paid, he paid does not matter now you are eating what is your cost? When you take let us say you we are talking about eating more, let us say at any point of time you are deciding you know that whether I should go for one more Gulab jamun, what is your cost at that point. 1 nothing 0. Zero 0 it has been all paid for. So, your cost is nothing and your benefit is, we do not know exactly how much is your, but you have some benefit; will the benefit remember the way we are talking about it the way he has been messing up that is a different thing, but the way we are talking about will the benefit change I am not talking about the net benefit I am talking about the benefit independent of cost, benefit that you have in your mind that does not depend on the cost, will the benefit change? No. If you pay, if you had paid in the beginning or someone else had paid for you in the beginning. I think it would change. How? because if I have paid I would gain more pleasure while eating that food than someone else have paid. Because if it is my; if it is not it is in my mind that I have actually paid. So, I get I could gain the maximum benefit by eating it. You are really a weird person let me tell you. Sir, it is the other way round. Other way around it happens typically. By when it is paid by someone else you get more pleasure. You get more pleasure typically that is a typical perception. We have. We have. Yes sir. That if someone else pays you get more benefits ok, but I am not talking about it, but the way we are framing it does not matter, it does not matter typically your you know the way a rational person should behave that is you know at the way a rational person should behave these two conditions are the same. In both the cases, if you now go back to the definition, the 250 rupees in both the cases, are sunk cost you are not going to recover. The cost is that you have already incurred whether you walk out of that restaurant or you eat more it does not matter this is the sunk cost. So, if you are deciding about it you should not consider this sunk cost what we are talking whenever you make decision I although I have deviated a little bit from the sunk cost because this is a nice example that, whenever you have this sunk cost you should not consider any sunk cost in your decision making what you should consider in decision making? Benefits. The cost that let us say, now you have two accents and there are 1 this is common, 2 is common, here we have 4, here we have 3. You should not talk about 1 1 because it is the same, it is not varying with the decision, you should only consider 4 and 3, what varies with the decision should be considered while making the decision. So, sunk cost does not vary in both the cases. So, you should not bring sunk cost while you make some decision. Sir, but how if he is paying 750 rupees then its 750. He has already paid the 750 rupees. But it is his sunk cost if I have paid in. It does not matter it is his. Mu sunk cost is 0 Or yours. When you are making when you are eating that extra Kala jamun you have some benefit associated with it the cost of having that kala jamun is 0 whether he has paid for it or you have paid for it in the beginning. So, your benefit is in the both case b of x . So, you should behave in the same. Same way. Fashion in both the cases, so, you should never consider sunk cost while you make a decision whether it is his or yours you should always ignore the sunk cost because its already gone. Now let us say one more example because this is very big problem when we make you know sometime people one other example let me give you that when you go for go to watch a movie, and after 10 minutes or half an hour you realize that the movie is very boring. Sometime you say, but I have already paid for it let us sit and watch this movie, the problem is that you should not consider the amount that you have paid right in the beginning because that is already gone. Whether you watch the movie or you come out of the cinema hall you are not going to recover that cost of the ticket that is the sunk cost. So, of course, it depends on your level of pleasure you want to continue, or you want to come out, but you should never give this fallacious argument, because we have already paid in the beginning let us sit and watch, but that is already gone. It is not going to vary in both the decisions you understand.
Microeconomics	Lecture97_Cost_Function_in_the_Long_Run.txt	So, now let us talk about we have already talked about cost function in the long run and let us bring here return to scale that we learned earlier. We learned return to scale in the context of production technology and we learned 3 different kinds of return to scale 1 was CRS that is constant return to scale, then what we had IRS increasing return to scale and then we had DRS decreasing return to scale. So, what do we mean by constant return to scale what do we get in the constant return to scale or when do we get the constant return to scale, when we can replicate the production process as it is; If we keep on replicating if we let us say if we are producing 1 unit if you are producing 1 unit of output 1 unit of output, of course in that case cost function is going to be a function of w r and of course 1. If we have constant return to scale it means we can replicate this process again. So, for 2 units what would happen? We will do this twice because, the idea is to minimize the cost to produce 2 units and in CRS, what happens? It is same this production for the second unit is exactly same as the production for the first unit and for the first unit we have already figured out this is the least cost way. So, what do we mean when we are producing, we are getting this cost twice? So, to produce 2 units what will happen? The cost is going to be of course this, but this is nothing but 2 multiplied by C of w r comma 1 is not it, so if we are producing Q units cost is going to be Q times of cost of producing 1 unit. So, that cost of producing that unit is minimized. So, in the constant return to scale what do we get C of w r and Q is equal to Q multiplied by C of w r comma 1 that production process is being replicated again and again and again Q times, then only we are getting this constant returns to scale, is it clear? Yes sir. We come back to this, but let us see what happens in the increasing return to scale. The cost to produce 1 unit is C of w r comma 1, when we produce 2 units the cost is going to be C of w r comma 2 can we talk about any relationship between these 2. Sir C of w r 2 would be greater than C of w r 1. Less than C, look at it C of w comma r comma 2 is going to be less than 2 of C of w comma r comma 1, why remember this is increasing return to scale if you double all the inputs; what you get is output gets more than doubled. So, now we are talking about to produce 2 units of output. So, you do not need to double all the inputs. Yes sir. Something less than you know it depends on the how great that scale is ok. So, you do not need to double. So, it should be something less than doubling and that is what we are getting here. So, in this case, we get in IRS case, what is true C of producing 2 units is less than twice of producing cost of 1 unit, and remember this cost function is not just any cost of producing 2 units by any combination of inputs, but a particular combination of input that minimizes the cost of producing that particular level of output and similarly, if we extend the same logic what do we get in the decreasing return to scale. Let me write it here for the Q unit C of w comma r Q it is going to be less than Q of and in decreasing return to scale we get opposite of this. So, basically what we get is it clear? Cost would be to produce Q units the cost is going to be more than the Q times of the cost of producing 1 unit at the least cost combination of inputs, fine. So, if I draw a curve here of course, here we have defined globally but here I am going to use local concept what let me draw the total cost curve and here we have C here we have Q and if we have this kind of curve, can I say in this zone it exhibits CRS and in this zone, it exhibits can you tell me what does it. Sir, IRS. Drs DRS. Because see here the rate of increase of cost is higher than the constant return to scale, what did we learn just that it should be lower than here let us look at it is the. So, in this zone, it is DRS cost has started increasing in this zone at higher rate and in this zone what we have is increasing return to scale, is it clear why we are getting it. We are increasing the Q by lesser amount then we are getting the same change in cost. So, it definitely what we have is decreasing return to scale in that case, now there is another way to look at this return to scale; what we can define is something called average cost, what is average cost ? Should be the cost of all the goods by total number of goods. So, what is the average cost? we can simply define it by total cost divided by number of Goods. Goods. So, total cost divided by number of goods, so what we have here if we use this to the cost functions what we get is in the constant returns to scale case, this is going to be equal to Q multiplied by C of w comma r comma 1 divided by Q. So, in the constant return to scale average cost is just the cost to produce 1 unit of, so for constant return to scale average cost is just the cost to produce One. One unit of output how about in increasing return to scale this is and; It would be more than. This is less than C of w comma r comma 1 divided by Q. So, what we get here is in increasing return to scale average cost is less than the cost to produce the first unit. So, what it means that your cost keeps on decreasing if you produce more and more and now I guess this graph will be more clear to you why in this zone, it is increasing return to scale because average cost is decreasing and how do we get the average cost if we draw a line from origin to the that point of total cost curve. So, in this zone, it is increasing and when we have increasing return to scale it starts decreasing and that is what we are getting here and so let me complete this in DRS it is going to be C of w comma r comma Q divided by Q and this is greater than Q of C divided by Q and here the average cost is more than the cost of producing the first unit. So, we have learned about average cost.
Microeconomics	Lecture69_Marshallian_and_Hicksian_Demand_Function.txt	Now before I proceed further, let me talk about this M and H, M represents Marshall and H represents hicks, these way; these two names very big names in economics in microeconomics Alfred Marshall and Hicks. So, what we are saying this, because this we are talking, this M represents this x 1 is nothing, but Marshallian demand. What is the demand function, the quantity demanded as function of price. Price. So, if we keep here P 2 fix and I fix, what do I get? The demand function. So, this equation is called Marshallian demand function; this is Marshallian demand function and this is called? Hicksian. Hicksian demand function and Hicksian demand function is also called compensated demand function. Before we proceed with maths, let us look at it again what is happening here ok Let us see this is the budget line ok, this is the budget line and now what happens, because of some reason price changes. let us say fine this is the original optimal bundle and this is the new optimal bundle. This we have x 1 amount of good 1 and here is amount of good 2, when we translate this here we will have x 1 and P 1 here. What will happen? We will get a point here and we will get a point here. This point represents to higher price, so here and this represents to a lower price. So, here What we will get is, if we keep on changing the price of good 1 and we keep on continuing this process what we will get? We will get basically. Demand. The demand function, but what we are literally doing? literally we are doing that we are keeping, we are taking this problem ok, we are taking this problem and we are changing here this P 1; that is why budget line is changing and we are obtaining the optimal bundle. And in optimal bundle we have optimal quantity of good 1 and that is what we are tracing here. Fine, in the demand function Now, let us see if we change the price and rather than starting with this problem we do this problem, what will happen? Here remember utility level is fixed, here income is fixed, but here utility level is fixed. So, what we are doing, rather than you know fixing the income, we have fixed the utility. So, look at what is happening here. We have here a utility function x 1 and x 2 and this is our let us say original budget line fine, and this is the optimal level Now, what is happening, we have to keep this utility level fixed, we cannot move out of this utility level. What we are talking about, that when we change the price, when we change the price, what would be the new optimal bundle on this utility level that is what this second equation would give us. Not through minimization, but the argument of minimization Minimization. Fine. So, what is really happening there, that we get new budget line like this. This will be the new bundle. So, at the optimal level they are the same, but when you move out of the optimal position they no longer are the Same. Same and when we trace this. Now we can trace this here. Of course, here we have x 1 and then we have P 1 here. We will get a different curve, again it will be a demand curve, but here it is called Hicksian demand curve. Now why do we call it compensated. Remember when we talked about substitution effect let me bring it here, this is the this is the total effect. Now how can we get the substitution effect, we draw a line parallel to the new budget line; such that it is tangent to the original indifference curve. So, what do we get? We get something like this And that is what we are doing. Basically if you look at this, if you look at this graph that is what we are doing, rather than going to the new position in the Marshallian sense, we directly we just rotate our budget line such that it remains tangent to the Same indifference curve. The same indifference curve. Now remember here how did we come to the this original indifference curve. We talked about that this consumer has to be given some a more income are should be taken, some income from him depending on the scenario So, somehow we need to compensate him, either in positive direction or in the negative direction; that is why we call it demand function generated by the second process compensated demand function. So, we have two demand function; Marshallian demand function and Hicksian demand or compensated demand function, unless it is stated. If in the question or anywhere in the literature it is written the demand function, then you should assume that it is Marshallian. Marshallian demand function. Whenever we are talking about compensated demand function, it is typically Explicitly. Explicitly mentioned. So, now, you understand the difference between these two; the Marshallian demand function and Hicksian demand function. So, you see again we are going back to the substitution effect and what is this effect Substitution effect. This is basically the substitution effect ok. Here if we look in the context of utility maximization problem, then the effect can be divided into two parts; substitution effect as well as. Income. Income effect, but if we are looking in the context of hicksian, then we do not need to divide it into two part, what do we get? Substitution. Substitution effect, because there we have already fixed the utility. We are maximizing for, we are minimizing the expenditure for a particular level of utility. Is it clear? So, now graph, I think it should be clear to you. So, again coming back to the equation that I wrote earlier that x 1 M P 1 comma P 2 comma I, it is an identity and it is equal to, here I can write u naught and then I can say that this is equal to P 1 P comma P 2 and u naught. Let me repeat again, if you see a letter C here rather than H. do not get confused, H represents H means Hicksian and C means compensated, they are one and the same ok, just two different names fine.
Microeconomics	Lecture77_Production_in_Short_Run.txt	Now, let us pay little more attention to the Production Function. And we will of course, there are as I said earlier, there are several different kinds of production transformation or functions are feasible. We are going to take a particular example just. So, that it is convenient, we will learn all most of the concept using this particular production function, we will say that Q the Q is amount of output, better way to remember is quantity, quantity of output. And of course, here we are talking about production function what we have that one output only. If we have more than one output, then we cannot talk about the process in terms of production function. So, Q is equal to capital F, this is function representing the technology and what we have K comma L, K is capital and L is labor and, we have already discussed what do we mean by capital and what do we mean by labor of course, here we are not specifying whether it is physical capital, or financial capital, or here we are not in L we are not talking about whether it is physical labor or knowledge. We will keep it vague deliberately so, that it is very general. Now what we are going to do is that we are going to talk about long run and short run, have you ever heard these terms long run and the shout run, what do we mean by long run and the short run. At least one of the inputs is fixed or constant, it cannot be change. Cannot be varied. Cannot be varied and long run is a period inputs can vary each and every one. So, short run one in at least one input one, input cannot be varied and in long run all the inputs can be varied. So, in this context of course, we have only 2 inputs K and L typically, typically it is difficult to vary K in the short run or here let us rather than using short run let us say in the short duration, it is difficult to vary K why capital typically is machinery, if we are using machinery just for example, then buying machinery takes time, buying machinery takes time, you can, but labor is relatively easier to hire and fire, but if you look at our country’s labor law, even we have difficulty in varying labor ok. So, in the short run typically in this course just for understanding of course, it is abstract representation of the real world, when we talk about short run, we will assume that capital is fixed capital cannot be varied. And in the long run when we say that long run what we mean that in that problem, we are able to vary capital as well as labor because, long if you decide to change the capital it will take some time, but eventually you will be able to buy machinery or sell of machinery ok. So, whenever we are talking about long run we will say that capital can be varied, but if we have more than two inputs, then it would depends on the context, but there it is long run it would be very clear that we can vary all the inputs, but in the short run what we have to keep in mind that at least one input cannot be varied. And also, just you know, we can say variable input and fixed input of course, we are talking about short run because in long run we can vary everything. So, we are talking about short run, variable input is the input which can be varied in the short run and fixed input is the input which has to be, which cannot be varied in the short run, fine let us take an example of capital and labor. Let us take a numerical example in the short run, we can say production in the short run production in the short run ok, or in other word what we can say production in one variable, why I am saying in the short run because, I have already limited myself that Q is equal to F K comma L, we have only 2 variables, 2 inputs ok. And we are talking about short run it means one of these inputs cannot be varied. If both cannot be varied then we cannot talk you know the capital is fixed and labor is fixed output is fixed, we are you know we are not concerned about that. So, we are concerned about at least where one input can be varied. So, let us say where labor be varied so, we can think of it in two different ways, either that we are talking about production in the short run, or we are talking about production in one variable. So let us say, they are basically the same thing see look at it this Q is equal to F and in the short run. So, let us say the capital cannot be varied capital is fixed at K naught level ok. So, we can say we can give it, if you want, we can write a new function which is a function of L only for example, let us take cob Douglas function here, what we have is production function is K to the power a, L to the power b. And now let us say that capital is fixed at level 5. So, 5 to the power a and L to the power b this is nothing, but a function of L only. So, that is what I am saying these two are the context that we are talking about of course, in short run you can have more than 1 input as fixed inputs, but right now we have only 2 inputs that we are talking about and, we want to vary at least one of them. So, in this context that production in the short run or production in one variable both are the same thing.
Microeconomics	Lecture33_Towards_Consumer_Theory.txt	So, let us start a new chapter called Consumer Behavior or Consumer Theory. Let us go by Consumer Theory. Of course, we were talking about consumers in the last chapter also we talked about demand and supply, and demand is nothing but consumers response to the market prices in terms of quantity demanded. And what we learned that quantity demanded decreases as the price increases in the market. Keep held when everything else is fixed ceteris paribus, demand is a downward sloping curve function. And what we talked about is something called diminishing marginal value you are not marginal rate of substitution diminishing marginal value and what we said is that the first unit that you consume gives you certain level of happiness or certain level of value. Second unit that you consume also gives you some level of happiness or some value, but this level is definitely less than the earlier level. So, it keeps on decreasing as you have as more you consume more happiness you receive, but at decreasing rate. Addition in happiness is not that high this is what we did. And from here we came up with that demand is a downward sloping curve and then we also talked about the slope not in absolute sense, but in relative sense using concept called elasticity. Now, we want to that is just the glimpse of what consumers do basically what happens that when you go to a market there may be some other process, but I will try to justify using an example from cricket, but let us see what happens when you go to the market and you want to spend certain amount of money what you think is there are several possible combination of goods available in the market that you can buy. For example, if you live in a world where you have only two kind of goods just for simplicity of course, we live in a more complex world that you have only food and cloth. So, let us say if you have some amount of money then you can buy different combination of food and cloth. Then why do you pick a particular combination, what makes you pick a particular combination of food and cloth in the market. See for one good when we are talking about one good world then the problem is very simple, let us say you live in a one good world where the one good available is that is food and you can do only one thing using whatever resources you have at your disposal that you use that resources to get food. So, what you would do? That you would exhaust all your resources you can you will keep on buying food more and more more food till you do not have many resources left. Just to make this story more realistic you can think that you are living in on an island and you have only one requirement of food, make lots you say it is available in plenty because you can make some sort of cloth using leaf of certain plant. So, you are not worried about. So, whole your time that let us say you have 8 hours a day that you can utilize that you can use to get food. So, what you would do? Let us say you do not have any other you know leisure is not a consideration I am talking about one good world, not two good world where you talk about food as well as leisure, relaxation is not an option I am talking about. So, you spend all your you spend more and more and all 8 hours you devote to get food unless you get saturated in the middle like after 4 hour you get enough amount of food that you do not need to work anymore that can be once you know. But let us say that we always there this is an assumption and we will make several assumptions, and as you will see that we move in this chapter we will have to make several assumption about consumers behavior that we will learn. So, one assumption that we can make that we always prefer more over less. So, in that case you will work for whole 8 hours to get food. So, this is a very simple case you do not have to make any choice you do not have any choice this is what you do. But now you let us say that there are two possibility 8 hours you can devote either to get food or you will have to prepare cloth from leaves. So, now, this 8 hours can be utilized in a various different ways various different combination of food and cloth you can get. So, which one would you pick and how would you decide. Student: According to preferences. According to preferences, we have been talked about preferences. So, what I am saying just in general what we are saying what we do typically whenever we have a combination of goods that we afford what we do, we compare, compare is the word. Compare is one important thing, that you compare all possible combinations, you compare all possible combinations. And by comparing when you are comparing what you are doing basically you are ranking them comparison implies ranking some sort of ordering that this one you like more this one you like less and you order them. Then the second factor that you look at is affordability probably, among all the bundles after ranking them you look at which bundles are affordable and among all the affordable bundles you pick one which is ranked highest among all those affordable bundle. So, three things you are doing basically you are comparing or you can say 4 things we are doing, first, let me write it here. Next 4 thing you are doing you are considering all the possible bundles you can of course, change the order it does not matter much here I am going to change the order a little bit, now among all the possible bundle you look for affordable bundle and you can do before you can even before you look you look at the affordable bundle you can rank them. So, one let us put two here, three here, it does not matter two here and three here. Now, let us look at the fourth what you do you pick, pick the most the high peak the highest ranked bundle among all affordable bundles fine. You may say that, I do not buy like this I go there I know that what I need to buy I need to get good day biscuit I go there and I get good day biscuit. I do not do I do not compare everything. So, here is my defense a very simple defense that I will give you. Let us compare this is this is a style to study, this is a style to study I am not saying that we are exactly following this part. But using this we are able to capture our consume consumption decision for example, if you are a student of science and if you have done physics in your 12th you would know about projectile motion. If you compare a batsman hitting a ball it is basically nothing, but a projectile motion of the ball. Does Sachin Tendulkar know about projectile motion? But if as a scientist you want to study the path of that ball how far it would go what you will have to do you will have to use Newtonian law of motion, you will have to use your concepts that you have learned about projectile motion. So, what I can say that Sachin Tendulkar has already internalized those concepts in his mind, his mind function along that those lines fine. So, it is not about you know when you are judging a theory if you are judging a concept, it does not matter what assumptions we have made, what matters is that is it able to predict the scenario in a relatively well fashion. And if we use these if I say this is the way consumers are making decision probably we are more or less capturing the way consumers are making decisions. Another example would be in there when you are using computation computers to calculate something you use a particular binary mode in your mind I do not think you do all that you all the time you go I have to write it in this particular fashion and do it. But the way that your mind has already internalized those processes, but if I want to represent on paper I have to make a model. So, we are trying to make a model this is the way I am saying consumers are functioning fine. And it is a realistic enough that it captures this is if we do in this particular way we are not making any mistake, fine. So, corresponding to these 4 steps we have we talk about 4 building blocks of consumer theory consumer theory. First, we talk about consumption set or choice set. It describes all the possible bundles, I am using world bundles here let me just talk about what do I mean by bundle, bundle or basket. A set of combination of different goods and now you can also include services. So, what do we mean by consumption set choice set? Consumption set or choice set is nothing, but all the possible combinations that you can think of the idea is imagination whatever you can imagine. At this level we are not talking about what you can afford, what you can get in the market we are talking about image imagination, what you can imagine, what you can it is not what you can achieve or what you can afford it is what you can think of all possible such possible bundles are in the consumption set. Like for example, if you have limited amount of money you cannot buy probably a Mercedes car, but if you are talking about your decision about buying a car right now of course, you do not need to consider probably because you know you do not have enough money, so you do not need to consider Mercedes. But when you are buying a car and we are scientifically studying then what we are saying whatever the possibilities are out there we will consider them and all such bundles are represented in the consumption set. Consumption set is nothing, but a set of all such probable bundles, probable bundles or possible bundles. Now, from probability or possibility from possibility we move to achievability or affordability of course, achievability includes affordability let me tell you how. Here we are talking about basically feasible set the second step here the affordable bundle we are talking about here the affordable bundle that is what we are talking here now, but feasible set what do I mean by feasible set. Let us say you are right now in Kanpur and one example I can tell you the caviar that is a luxury food item probably would not be available in Kanpur. So, even if you have money and we are talking about consumption decisions decision are present because of geographical limitation you cannot buy caviar. So, you would not consider caviar in your feasible set, whatever is feasible because of certain constraints those constraint can be geographical that can be legal that can be monetary when we are talking about monetary then affordability is the word. Whatever combinations are affordable will be in the feasible set if you do not need to preclude them because of some other constraints. So, affordability is the factor there. So and when we are talking about affordability then instead of calling it feasible set we can call it budget set fine. But achievable is more general than affordable someone may be affordable, but may not be achievable because of legal or geographical constraint. So, right now we are talking about, but most of the time in this course we will not talk about legal constraint, we will not talk about geographical or any other constraint, we will talk about affordable that this affordability parameter and that is why instead of using feasible set I will be using the budget set fine. Of course this budget set can take care of geographical constraint also how in case of caviar even though you know in Delhi it is available for let us say 10,000, I do not know the price I am just guessing, you have some x amount per 100 gram you can say that in Kanpur it is available for near to infinity price. So, budget constraint can take care of those situations also. You just have to convert geographical constraint into the budget constraint fine. The third is something that you are talking about right in the beginning, preferences relation. It is about comparison, it leads to I will come in you know I will talk about preference relation in very much detail little later. But right now this preference relation in something that facilitate the ranking of all the possible bundles. One thing also I want to make it clear that whenever we talk about ranking of all the possible ranking or bundles we talk about all the possible bundles rather than all the affordable bundles because let us say what if we are talking about a scenario where income goes up then we will have to rank again. So, what we do? We keep this ranking independent of affordability. So, whatever we have in the consumption set we rank them and then what we do after ranking them, we start looking at the affordability or achievability if you want to use a wider term fine that is what we have done. Now, the fourth term would be an assumption and what is that assumption? That is the assumption about human behavior, that the assumption is that most preferred most preferred, if I use the term most preferred or highest rank ranked affordable bundle is selected you can say why we are not taking it as given this is an assumption. So, in economics let me tell you just we use math extensively and we use concept of set theory as language to describe things in economics. So, everything has to be explicitly stated, everything has to be explicitly mentioned. So, we are making it very very explicit here an assumption about human behavior that we human we pick the most preferred or highest ranked affordable bundle fine.
Microeconomics	Lecture60_Perfect_Substitutes.txt	Now, let us solve this problem graphically, now you will not get confused between why do we use, now you will see that we never talk about marginal utility, we always talk about marginal rate of substitution because marginal rate of substitution preserves, it does not depend on the, it does not vary with monotonic transformation of utility and that is that is important to us fine. So, graphically what we have is of course, here we have good one here we have good 2, now this is like this and budget line is like this of course, here I am assuming slope is 1, here I am taking slope is minus half. So, budget line is steeper than an individual indifference curve ok, because the slope of indifference curve is minus half at all the points and slope of this budget line is minus 1. So, this is steeper. So, of course, and what is the in this direction if you look at in this direction utility is increasing ok. So, what is the idea here that the person would try to reach to the highest possible indifference level given the budget constraint. So, the budget constraint all these bundles are feasible. So, which bundle this person would choose, the bundle that is right here, this person will consume only good 2, only good 2. Now, let me change this problem little bit just to understand how it works. Again, we are talking about maximising x 1 plus 2 x 2 of course, maximise with respect to x 1 and x 2. Such that earlier our problem had x plus y is equal to I, now let us say what we have is with respect to x 1 and x 2, but now we are going to change the budget constraint, what we have earlier is x plus y. So, in the market x plus y is equal to I, in the market 1 unit of good 1 can be exchanged for 1 unit of good 2 ok. Now, let us change it, let us make good 2 more expensive ok, what we will have is that now good 2 cost at least thrice as much as good 1. So, what we will have here is the budget constraint is x 1 plus 3 x 2 is equal to I. So, earlier what was happening the market exchange rate by 1 is to 1, but this person valued 1 unit of good 2 more than 1 unit of good 1, remember here 1 unit of good 2 will give him 2 units of utility while 1 unit of good 1 will give him only 1 unit of utility. So, he valued 1 unit of good 2 more than 1 unit of good 1 while the market valuation was same for both the good, both the good would cost 1 rupee each. So, that is why what he will do since he values in the absolute term, he values 1 unit of good 2 more than 1 unit of good 1. So, he will keep on consuming only good 2. Now, what is happening here forget about this budget constraint. What is happening here is that the value of 1 unit of good 2 is twice as much as 1 unit of value of good 1 in terms of utility of course, the value here we are calculating in terms of utility. So, it is twice as much, but what is if you look at the market the market valuation of good 2 is thrice as much when I say market valuation, I mean market price. So, the value you get from 1 unit of good 2 is twice as much as 1 unit of good 1, but market valuation is thrice as much. So, of course, in this individual’s opinion good 2 is expensive then good 1. So, of course, he will consume only good 1 and let us look at this graph, what is happening here in this case is the indifference curves would remain the same it would not change, but the budget line will change and how will the budget line change in the new budget line the maximum amount of x 1 that a person can consume was this much, given by red dot this would remain same, but what would happen x 2 will come down, it will come down this is the way it will come down. So, now let us see if I draw more indifference curve of course, the slope of indifference curve is minus half, while the slope of the budget line is minus 1 by 3. So, of course, now indifference curve here is steeper. So, now, the optimal bundle lies here, this person will consume only x 1 none of x 2. So, what it means again, this gives us a very good idea to look at this problem in a little different way that 1 rupee let’s think about 1 rupee that he is consuming, if 1 rupee spent on good 1 will get him certain utility, certain amount of utility and 1 rupee if he spends on good 2 will also give him some different amount of utility and of course, he would compare these 2. So, how much let us let us say the utility increase in utility if he consumes 1 rupee on good 1 is going to be 1 no because if he spends 1 rupee on good 1, how many units of good 1 he can buy 1 fine and how much will be the increase in utility 1, if he take this problem and if he spends 1 rupee on good 2 how much he can buy of good 2, 1 by 3 and how much is going to be the increase in utility 2 by 3. So, what it says that whenever given this scenario whenever you spend 1 rupees, whenever you spend 1 rupee on good 1 you get utility 1 and let us say you cannot say it depends on the utility does depend on utility this particular value, but if you take monotonic transformation of these 2 values this will always be more than this, that is important ok. So, does not matter which representation of utility function which particular representation you take the, it will be rank in this particular fashion. So, here it is good idea to spend all the income on good 1 fine. Let us look at the earlier problem ok. The earlier problem was using this technique x 1 plus 2 x 2 and what we had was x 1 plus x 2 is equal to I fine. Now, let us see that if he spends 1 rupee on good 1 how many units of good 1 you can buy, 1 and how much will be increase in the utility 1 and if he spends 1 rupee on good 2, how many more units of good 2 he can buy 1 and what will be increase in utility 2. So, of course, 2 is more than 1. So, rather than talking using numerical value let us say if we have a problem where what we do is maximise u of x 1, x 2 with respect to x 1 comma x 2. Such that what we have is p x x plus p y y and this is equal to I ok, I use this technique yesterday also, but there we talked about a scenario where we get interior solution where x 1 and x 2 both are greater than 0. Now, we are talking about a scenario where we have at least 1 of these goods optimal amount of consumption of 1 of these goods is equal to 0 and of course, this scenario is known as corner solution. Why we say said corner solution, if you look at the diagram it would be clear either you get solution in 1 corner or in the other fine ok. So, what is happening here, now let us say if you have 1 rupee and if you spend it on good 1 how much will you get 1 by px and from 1 by px, rate of change rate of increase in utility with respect to good 1 is. Of course, I have made a mistake here I have been writing here let me change the notation p 1, this is p 2 and this is x 2 and this is 1 by p 1 increase in utility is going to be u 1 by p 1, what is u 1 u 1 is this is basically du by dx1. So, rate of increase and what we have if we spend it on good 2 1 by p 2, u 2 by p 2 and its going to be or u 2 by p 2 this is 1 fine. So, what happens when we have a solution where at optimal solution where 1 good is not consumed at all it means that the gain from spending even 1 rupee on that good let us say that good is good 1. Then this has to be less than u2 by p2 then only you get a corner solution, in other word this will lead to x 1 is equal to this is true always then x 1 star is going to be equal to 0 and inversely if this is less than u 1 p 1 it will give us x 2 star is equal to 0. So, if we can tie it to what we discussed earlier, what we discussed earlier that in the optimal case when x 1 star and x 2 star if both are not equal to 0, then what we need to have u 1 by p 1 should be equal to u 2 by p 2, in this case x 1 star x 2 star they both will not be equal to 0 and it make sense. If you are consuming both the goods then the gain this is gain from spending 1 rupee on good one and 1 rupee on good 2, they both should be equal. Otherwise, you would not spend the last rupee on 1 of the goods which has lower you know return from the market, is it clear. So, we have developed another technique and these all are related. Now, we have been using this particular utility function x 1 plus 2x2, this is the utility function we are using or let me write a more general 1 this is special example of ax1 plus bx2 ok, this utility function of course, this utility function is representing a particular kind of preference. So, we are talking about preference not just the utility function. If we see preference of someone represented by this utility function, what can we say about this person, we do not know that name. Student: Means 1 group for another. Student: Then we can substitute 1 group for another. So, what it means is that he is always willing to exchange 1 good for the other good in fixed proportion, the proportion does not change, and this particular kind of preference is called of course, this is linear in x 1 and x 2, this particular function is exhibiting something called perfect substitution. Now, what does it mean in words that basically consumer is willing to exchange 1 good for the other good in the fixed proportion and it when we get this, when we have 2 different kinds of goods available in the market which serve the same purpose like Pepsi and coke or tea and coffee or tea and cola things like that. But the one catch is there if you should be able to exchange 1 for another in the 6 fixed proportion all the time not necessarily 1 is to 1, but in the fixed proportion, if this is true then we say that this preference exhibits perfect substitution.
Microeconomics	Lecture43_More_on_Three_Axioms_of_Rationality.txt	Now let us focus. Let us see what happens, because of these three assumptions, three properties or three axioms, you can take them as axioms, you can take them as properties, you can take them as assumptions. The only thing I am not saying that you cannot have weird preferences, you can have even inconsistent preference, but we cannot talk if you have inconsistent preference. We cannot talk about your choices in economic terms ok. We will do those problems. So, what does it mean that your preference. Let us take an example and let us see what happens when your preference satisfies these three axioms and let us take; of course, I am going to, I am not right now I am particular about the assumptions that the properties that we talked about for consumption sets. So, right now I am not worried about the consumption sets. So, as soon as I say that let us take a finite consumption set. You may raise an objection that we cannot if we talk about the properties additivity, divisibility, then we cannot have finite consumption set, but right now I am not worried about it. Some assumptions you know depending on the problem that you are dealing with. You will have to come out of the regular framework that we have right. The aim right from the beginning is to describe a general framework to deal with a general problems, but here just for an example, just for illustration I am not sticking to the consumption set, the ideal consumption set that I just described earlier. Let us say that we have this finite consumption set and we again two good world. Two goods world, just for simplicity the example would not change if you include more goods there, and let us say these are the bundles we have 3 comma 1, 1 comma 3, 2 comma 2, 4 comma 4 and 1 comma 1. Only these 5 elements, these are the only possibilities. What does it say when we say that your preference satisfies the three axioms, means we pick any of these, any two from the set, you should be able to. compare them. Compare them. So, let us pick 1 comma 3 and 2 comma 2. Again I am not saying this will always be the case, let us say that a person is indifferent between 1 comma 3 and 2 comma 2. What does it mean that 1 comma 3 is at least as preferred as 2 comma 2 and 2 comma 2 is also at least as prepared as. 1 comma 3. 1 comma 3 leading into that, this person is indifferent between 1 comma 3 and 2 comma 2 fine. Similarly let us pick 1 comma 3 and 4 comma 2, and let us say this person strictly or he prefers 4 comma 2 over 1 comma 3, what it means again just for description. That 4 comma 2 is at least as preferred as 1 comma 3, but 1 comma 3 is not at least as preferred as 4 comma 2, this implies this relation. Now, how about let us pick 3 comma 1 and 1 comma 1, and let us say what we have is 3 comma 1 is strictly preferred over 1 comma 1 fine, and let me put one more. And. 3 comma 1 and 1 comma 3, and let us say this person is indifferent between 3 comma 1 and 1 comma 3, what I have used so far is only completeness. I have not talked about transitivity. I have not talked about the transitivity. So, now, let us see if we bring 1 comma 1 and 4 comma 2, and this person let us say for time being that 1 comma 1 is strictly preferred over 4 comma 2. So, I have given you bunch of examples. Now, let us see what happens, I can say just the level. So, at one level we find a person is indifferent between 1 comma 3, 3 comma 1 and. 2 comma 2. 2 comma 2 and also we have figured out that 4 comma 2 is strictly preferred to 1 comma 3. 1 comma 3 sir. 1 comma 3. So, I can put 4 comma 2. Here we do not know for what happens between 4 comma 2 and 2 comma 2 we do not know, but we will check for it, and what figured out that between 1 comma 1 and 3 comma 1, person prefers 3 comma 1. So, we put here 1 comma 1, but we have not checked for 1 comma 3, and 1 comma 1 and 2 comma 2 and 1 comma 1 fine. Now we have also said that when we check 4 comma 2 and 1 comma 1, then this person prefers 1 comma 1. So, in other word that when we compare 1 comma 1 and 4 comma 2, 1 comma 1 is preferred more, but now let us say what is happening to the ranking, I cannot rank them properly. So, what went wrong? Probably. Transitivity Somewhere we violated the axiom of transitivity why, because what we have learned, let us say 4 comma 2 is at least as good as 1 comma 3, and 1 comma 3, and you are indifferent between 3 comma 1, and here you prefer 3 comma 1 over 1 comma 1. This should lead to that 4 comma 2 is preferred to 1 comma 1 transitivity leads to this, but this we hear this is violated. So, that is why we have problem, but if we satisfy transitivity, then what happens we can change the direction of this and that is another way to write is this. yes So, now we are fine. There is consistency. So, when you are talking about completeness, you can compare only two, but transitivity preserves this consistency. So, now we have certain, if we follow all these then we have consistency in our choice fine. So, now, we can rank them, but one thing that let us take a look at that, this ranking is fine, nice whenever you have finite number of options that is what we have learned from here, and your preference satisfies those three axioms. Then you can rank them in consistent manner in some order, an order will be preserved fine.
Microeconomics	Lecture17_Application_Price_Control.txt	Now, let us talk about. I said that in this chapter we will discuss two applications, one price control and second taxation, so right. Sir, does this slope of this graph denote anything price demand upon, some price upon some quantity. It does denote. So, wait little later we will talk about that that topic, right now we are not, we are just talking about movement and shifts, the direction of movement and shifts we are not talking about the slope. Slope is also very important very good question but little later, we you have to wait little bit to get the idea about the slope. We will talk about the slope. So, right now we are talking about one application another application taxation we will talk little later. So, what is price control what do we mean by price control. Sir, how we can regulate the prices of the goods in the market. See typically what happens in the market that if there is imagine that there is no control then what happens the as we have seen in the potato market the price and quantity bought and sold in the market they adjust on their own, it is not that someone is making that adjustment because of individual behaviors that there is an automatic adjustment and eventually the market reaches to equilibrium price and at that price quantity and bought and sold would be the equilibrium quantity. But now there is a possibility that government says that because there is a legislation or there is a law that you cannot buy or sell the product. Now there are two possibilities that above this particular price or below this particular price. So, government can come up with a regulation to fix price ceiling or price floor and we can define price ceiling as maximum price for a unit of good established by law or by government and similarly price floor is the minimum price tell me an example. Sir, petrol petrol or petroleum. What do we have price floor or. Price ceiling. Price ceiling and price floor into in case of farmers like. Minimum support. Minimum support. So, price floor typically is minimum support price. What happens typically, let me also add government does not only say in the case of price floor that this is the minimum price, two ways to do it; one ways is that government says you cannot you know this is the price below which you cannot buy yourself this is the one way to do it or the second way to do it is that government says that we are the government is willing to buy the product at this particular price. Now, consider a scenario let us look at the demand and supply this is supply this is the demand if government says that the minimum support price and let us say this is the equilibrium price P star. If government says that the minimum support price is less than the government would not say government fixes the minimum support price which is lower than the market equilibrium price what would happen. Let us say that in the market on its own wheat can be bought or sold at 5 rupees per unit 5 rupees per kg or government says that the minimum support price for wheat is 4 rupees per kg. Nothing will change. Nothing will change. This will only influence the market if it is above the market equilibrium price. So, what is happening in that case let us look at it. Minimum support price is above market equilibrium. This is demand this is supply and this is minimum support price what will happen; what you can see immediately is. Excess supply. Excess supply. Excess supply. Excess supply it means there will be a downward pressure. sellers On the sellers to decrease their price of per unit of good, but if government wants to support them then what does the government say. It will. That you bring the goods. It will buy by itself. We will buy it at this particular price. So, what government does that it artificially jacks up the demand in a way that we will buy, but you have seen again I am moving out of economics you have seen that every year Government of India buys lot of grains and what happens to that grain. It get wasted. It gets wasted because not only if you, let us say when market can support 5 rupees per kg and you promise that you will pay 6 rupees per kg you are producing more than what is required in the market. So, people would, even suppliers could use their resources to produce something else, but this just because there is a support price for wheat, they would devote their resources to produce wheat. So, supply of wheat would increase even further it may increase even further, you understand. So, this may be a result of price, that the price floor. Now, let us look at the price ceiling. Where do we get the price ceiling typically? Petrol. Petrol or even in the rents. Maximum rent. Maximum rent that you can charge is given by the government. You cannot increase the rent beyond a particular level, you cannot increase the rent beyond particular level. So, in that case, what happens? Now, there are two possibilities, if that level is above the market equilibrium price. Nothing will change. Nothing will change if that level is above. So, you can go up to that level, but market itself is operating at the lower level. So, there is no problem it would not change the market, but we get into a problem when the price ceiling is below the market equilibrium level and this is the price ceiling. Now in this case what is happened what do we get excess? Demand. Excess demand. Supply demand price quantity. We get excess demand and when we have excess demand what happens there. Upward pressure. There is an upward pressure, but by law sellers cannot increase the rent or buyers cannot pay more. So, then what do we observe in the market. Role of government. Black marketing. Black market you know under the table payment, what else. So, let me write it that first thing it gives rise to shortage that is the very basic thing to say. Now, second what we observe is something I can call non-market. Transaction. Rationing mechanism. What is non-market rationing mechanism? For example, petrol you were giving the example of petrol the people would like to buy more, but very little amount of petrol is available relatively less amount of petrol is available at that particular price. So, what happens? Typically you see a long line people waiting. This is in a way, it is a non market rationing mechanism you have to wait little longer waiting is costly for you. So, you are paying in a different way not as the price of petrol, but in terms of the time, time that you could use to earn some wage. So, non-market mechanism it can give rise to in room rent case, what can happen, the landlord can demand pagadi, in India we have pagadi system and it is more prevalent in Bombay because in Bombay, we have more we have stringent rent control laws. So, this is non-market mechanism that you have to pay right in the beginning as pagadi to rent a room we are talking about the effect of price ceiling on the market and one thing that we saw clearly that whenever we have price ceiling and the price determined by the government or by the law is lower than the what would have been the market equilibrium price. Then what we get is shortage, it means we have excess demand, and we have less supply that results in shortage it means that some of the people would like to buy the good at that particular price, but they are not able to buy because we do not have sufficient amount of goods available in the market at that particular price. So, we get shortage. Also, what we observe again I am not saying all the time, but in some of the cases what we observed is non-market rationing mechanism and that is like for one example would be long wait. It is not illegal you know it is not illegal but just because there are so many people who would love to buy a good at that particular price, but there are not enough supply. So, they will have to wait longer like lines that you have seen long queues that you have seen outside petrol station gas stations or even the long wait to get the gas cylinder. People would love to buy more of gas cylinder at that particular price, but there is no, not enough supply to fulfill their demand. So, we get this is something non-market rationing mechanism. Another example is that you have to pay pagadi. Right now that pagadi is something that security deposit that land the house owner or the apartment owners they take from the person who would like to rent their house or the apartment in name of security. But you can think it is kind of a non-market rationing mechanism that they cannot, that the landowner or the house owner cannot charge the market equilibrium price that they would like to charge they are forced to charge something less. So, to compensate they charge pagadi in name of security fee and this is in a way when they say that it is a security fee it is not illegal. So, it is non market rationing mechanism. Now, we can also think about the black market, the rise of black market or in other words illegal trade at prohibited prices or in other word this is one kind of black market. This is not the black market, but this is one kind of black market. Sir, actually the pagadi system. Ha. We are taking some question. Ha. Like you said some security. So, sir is it taken thinking that we would earn interest on that caution money and the prices would be rising on its own, you compensate the No see. drop in price. I think from let me tell you this thing a little in a different perspective. If market is operating at the equilibrium price and let us say the rent of the room of course, here we are assuming that there we have only one kind of apartment available not very different kinds of apartments available, and the rent of that apartment is 1000 rupees per month and you know what happens the quantity demanded matches the quantity supplied. So, when apartment owner demands a pagadi you would not go to him go to that person for to renting his apartment you will move to the another apartment owner because that person would be willing to give you you know, the pagadi would vanish from the market and even if it is present if it is really, security the caution money or the security money it is going to be very small security money. Just imagine in Bombay you pay almost the price of apartment as security money, sometimes more than that as security money, although the name is security money, but that is not security money fine. Now, let us move to the illegal trade at prohibited price. Now, you have here some sort of black market, people the sellers are not allowed to sell at price higher than the price determined by the government through some law or some legislation, but it is very very difficult for government to monitor it. So, you will automatically have a black market where you can buy gas cylinder at higher price, you can have black market where you can buy diesel at higher price and these are quite common in our country. Yes, sir we do have agents like who supply. Supplied I am not trying to say that they do they provide us they of course, provide us a service I am not saying that they are doing the right thing, the idea here is not to defend them, but to explain why it is happening and then what we have is some kind of tie in deals. Let me explain what is tie-in deals. Then tie in deals is many people would like to have gas connection. Let me give you explain this through an example that many people in this country would like to have gas connection, but the suppliers cannot afford to give those many gas connections at the government-determined price. So, what they say you go to, you go for gas connection if it is your turn if somehow you are getting gas connection, what the seller would say that you want gas connection you will also have to buy gas burner from me then well you will get the gas connection ok. Sir. And that is also quite common. You are not interested in buying gas burner at really at the price which is much higher than the price that you will you have to pay in the market for a gas burner. So, this is the tie in deals, it is not that you are buying the gas burner here what you have is shortage, there is not enough match is available in the market between buyers and sellers. So, sellers are just, sellers are getting compensated in that particular way. Again I am not defending their position that they do a right or legal thing I am just trying to explain why it happens. Similarly, when you go for apartments in Bombay, the apartment owner may say rent is this much, but also you have to take the furniture that I have put in the house, you also have to rent the refrigerator that I have put in the house, and you will have to pay rent for these furniture and refrigerators which is much higher than the rent that you would have to pay if you rent these items from the market. So, these are tie-in deals that is what you get. So, let me put a table for price ceiling and what you get, although I explained these terms for price ceiling. Let us look at what happens when we have a price floor. Here you get excess supply then you have then you have non-market rationing mechanism again here also and can you tell me what is one example of non-market rationing mechanism? Like the buyer Let us take example of the minimum support price for wheat. Of course, you will have excess supply and also you will have non-market rationing mechanism. Can you give me one example of non-market rationing mechanism in case of excess supply of wheat because of price floor? Sir, like the payment is not done at the time of buy, it is done after year or after few months. That can be one, again it is very difficult to discern it because of some other reason, but that can be one reason. And one more thing we have to pay a minimum wage to the laborers. So, to escape from that thing we include child labor. That is stretching too far, again it is difficult to figure out, but one thing, that is very very simple, to sell their product they have to here, it is not the consumer who is waiting, here producer they wait very very, they wait long period to sell their product or when they go to the government unit to sell their product there is a long queue. So, long waiting period is there for offloading their products. What you said is ok, but child labour, one has to think and really establish that connection it is not that direct. What else, illegal market; you will have to pay bribe, illegal trade instead of writing market illegal trade to offload your wheat at government units you will have to pay bribe to the government officials. So, all these things happen whenever we have price control. So, you may ask that whatever I have said talks about the problem associated with price control then why do we have price control? Can you think of a reason that we have price control? Yes sir, because the farmers like people who are putting in more effort, but not getting the proper returns of their effort that is why. It is to incentivize the production for a few like for wheat or if we talk if there is a new production of potato and if we put price floor on potato. So, it will incentivize production and they can serve the market better. But for this example that at least everyday news we hear that so much of grain is rotting in government depots. So, do you think it is important enough to incentivize farmer to produce more wheat or more potato? Sir, that is also one more reason now that we do not have a proper distribution system by which we can distribute like some people with like below poverty line people, they are dying because of hunger, and we are throwing a lot of grains as surplus. So, we do not have a proper distribution to. So, let me just again for the argument’s sake, I am not trying to demonize price control, I am just we are looking at the reason and these negative reasons I gave you because we are talking about demand and supply. We are not talking about normative properties of imposing price control. But just for the arguments sake from demand and supply perspective you are talking about there are many poor people, if government wants to serve these poor people why cannot government buy grains at the market price and give it to the poors. You understand my point. That if aim is to serve poors why cannot government buy these products at the market price and sell it as you have already said that we do not have proper distribution system. So, what we are doing basically is that we are buying at the minimum support price and leaving grains to rot in open, in absence of proper distribution system. But even when we have proper distribution, why cannot government buy these the items that government needs to provide to poor at the market price and give it to poorest, just a point that you should ponder. But I am not saying that price control does not have advantage that when we talk about the welfare economics towards the end we will talk about it. But what I am saying definitely that there are definitely better ways to cater to the welfare of public.
Microeconomics	Lecture50_Properties_of_Preferences_Convexity.txt	So now, we are going to talk about convexity either you call it axiom or property, but we are going to talk about convexity. What do we mean convexity? We have already learned, let me remind you, that what did we say we say a set is convex when we take two elements from that set and we draw a line of course, that set has to be in Euclidean plane or you know it should be, it should satisfy some geometric properties then only we can draw a line through two of the elements. But whenever we can draw a line between two elements if the line is completely contained in the set then the set is called convex set, that is what we have learned. Now, we are talking about convexity property that our preference should satisfy. I am not, again I am not saying that everyone’s preference should satisfy this property, but again we are going to use some mathematical tools and it becomes a lot easier to deal with someone’s preference if it satisfies the convexity axiom. So, what do I mean? I already told you that whenever we take a bundle let us say we take a bundle and again for simplicity I am drawing it in two dimensional world or two good world, where I have good 1 here and good 2, good 2 here. And whenever I take a bundle let us say x it divides the consumption set into 3 mutually exclusive sets. One is set which says with the set which contains all the bundles which are preferred over and all the bundles over which x is preferred by this individual and third x is indifferent. So, what I am saying that instead of now talking one bundle now we take two bundles. Let us say these bundles are x and y, these two bundles are x and y, and what we do? We draw a straight line connecting x to y what will be the equation of that straight line, equation would be t x plus 1 minus t y where such that t is between 0 and 1. Let me say here this is y and we have a straight line x y. And what does this t denote? This bundle this part of the bundle that we are talking about, we can see, this bundle can be anywhere on this line. So, this distance of the total distance from x and we will have depending on value we will have this bundle here t x plus 1 minus t y. I will also talk about graphically what it means. But let us look at it mathematically also. We say that an individuals preference satisfies convexity property or convexity axiom if this bundle is, if this bundle is at least as preferred as x and this bundle is also at least as preferred as y it has a simpler statement. Let us look at the simpler statement. What we will do? We will take x and y such that that x and y are indifferent, the person is indifferent between x and y. Means this individual if he doesn’t have any monetary consideration then he is equally well off, he gets equal level of satisfaction whether he chooses x or he chooses y. So, he is indifferent between x and y. So, in this case this bundle should be at least as preferred as x then we say of course, this is true for, this is true for all x and y in the consumption set. If you did not understand the mathematical definition it is ok, let us look at it graphically. What we have here is indifference curve, what does it mean? You take any bundle on this curve and the person gets equal satisfaction. So, we are picking any two bundle x and y. And then we draw a straight line, let me make it you know different indifference curve, so it would be more clear, this is the indifference curve and we are picking here x and y, and let us take a straight line connecting x to y. What it means is that the all the bundles on this green line, what does this green line indicates? A linear combination of x and y. All the bundles on this green line is at least as preferred as x and y is it clear. This is one statement of convexity. We can talk about even stricter definition of convexity, and what is that? What we say that of course, when we have we are drawing the line and we talk about any point on this line then x is also on this line and y is also on this line. So, x cannot be strictly preferred to itself using reflectivity it has to be at least as preferred as itself fine. So, what we do in the strict convexity we exclude these two points, it means we restrict t between 0 and 1. Again just for notation, this means any real number between 0 and 1 including 0 and 1, while this one means that any number between 0 and 1, but excluding 0 and 1 this is called open interval, this is open interval and this is closed, close interval. So, now if we limit our self to this open interval and what we have is that all the points on this straight line excluding x and y is strictly or is strictly preferred to x and y then we say, that preference satisfies strict convexity. So, here what we have is t x plus 1 minus t y, we do not have to say we do not have to indicate what happens with respect to y because the person is indifferent between x and y and t is between 0 and 1, excluding 0 and 1 this is strict convexity. While the earlier one is and this is weak convexity or in other word all the points in case of just convexity all the points on green line are elements of set which represents all the bundles which are at least as good as x or y fine. So, mathematically it is clear to you. Let me ask you, that if your indifference curve is like this, is it convex? Let me tell you, you are wrong. How you are wrong? Because I drawing just one indifference curve I do not know where in this zone because you are assuming monotonicity, if you assume monotonicity then of course, it is not convex because take any two points, any two points and you draw a line of course, this is a very poor drawing but what is happening here, using monotonicity you can say this is less preferred than x and y that is why it is not convex. But go back to the an example that I gave you where what we had that if x 1 plus x 2. Less than or equal to y. Less than or equal to y 1 plus y 2, then x is as preferred as y that is what I talked about. So, not exactly the same, we have something like this indifference curve and your utility is increasing in this direction then this is convex, is it clear. In that case it is convex. Why? Because in this direction utility is increasing, if I pick any bundle on this line let us say this line this bundle is preferred over x and y. So, in that case, in this case it is convex. So, before you know you have to be very very clear what you are talking about, which assumptions we are applying, which assumption we are leaving out fine, it is clear. Now, can you tell me what does it mean? Of course, we are talking about it, but what does it mean? Mathematically it is clear to you I believe, but can you explain intuitively what does it mean. that the amount of… So, you are talking about you are at least in the right direction you are talking about that marginal rate of substitution that we have not discussed, but we will discuss it. But even before that what we have here, let us look at it let us compare this and of course, here I am assuming monotonicity is satisfied. So, I can I say convex preferences not convex fine, and I am taking a bundle here x, and I am taking a bundle y, and if I am taking average or any weighted average and I am taking a bundle here, what it means? That this new bundle let’s call it z it is at least as preferred as x or it may be more preferred. So, can I say that an individual preference exhibits convexity if that person prefers balance bundle over extreme bundles, kind of its balancing out you know here what is happening in the bundle x you have lot of good 2 and very little of good 1, while in y what you have in this example lot of good 1, but very little of good 2. And how about the weighted average of these two, because all the bundles on this straight line connecting x and y they are weighted average of x and y. What you have is the kind of balance between these two. So, here one interpretation could be that you prefer a balanced bundle over extreme bundles. When it is true all the time, then your preference exhibits convexity, is it clear. Now, can you tell me an example when it is true and when it is not true? An example when it is true first let us start with when it is not true. Let us say good 1 you have tea and good 2 is cola and I am talking about my consumption at present. I may let us say I am indifferent between a cup of tea and a 200 ml of cola. But of course, for most of us that we would prefer these extreme bundles extreme bundle according to our definition according to the way we have discussed over the mix of cola and 200 ml of the weighted average of cola and one cup of tea. So, their convexity would be violated. But how about let me say, how about if I take over take average over a month or a year. What it means is that sometimes I would prefer if tea, sometime I would prefer coke it is not that all the time I would be going for tea only. So, that is how we justify. That even in this case convexity is not violated if we take a longer duration of time is it clear, fine. And you can find such example where mixing two goods would decrease the pleasure using this you can create example where you your preference exhibits convexity, fine. That is one example.
Microeconomics	Lecture29_Tax_Imposed_on_Seller.txt	Now, let us see that it is imposed on seller rather than on buyer, starting with the same equation. Ps is equal to 2 plus, 2 plus Qs and Pd is equal to 10 minus. What we will have in the equilibrium that Qs star is equal to Qd star and what happens when tax is imposed on seller, but whatever buyer pays to the seller, seller will have to spare some amount as decided by the government to the government. So if seller is paying P, then how much of, if buyer is paying P how much seller can keep? P P minus t. T. In case of the unit tax, that is the case we are describing. So, again we will write it in terms of P, what happens here we have P minus t. T. 2 plus Qs or just Q because you know we writing in terms of Q and here what we have P is equal to 10 minus Q. So, if you draw it, here we have 10, here we have 2; this is the original supply curve this is the original demand curve. Yes. Now, what happens to the supply curve? Upward. It would shift upward because you can think although tax is not, tax is not something that a seller pays for raw material or for input, but you can think in terms of that seller has to pay to sell; seller has to pay these tax to sell a product. So, in a sense it is increasing the cost of production and hence since tax is imposed on each unit of the good. So, it is increasing the marginal cost by the amount of tax. Tax. So, marginal cost is going up by tax and in this case 2. Tax. So, supply curve is nothing, but the marginal cost again not precisely speaking, but roughly speaking that supply curve is nothing, but it is a marginal cost with respect to Q that we have already discussed. So, now marginal cost is going up per quantity. What would happen to the supply curve? It would shift upward. So, this is the way it will shift and again you should notice this vertical shift is equal to t same as tax amount. So, now, what we can do, we can find the equilibrium using this equation and this equation and what we will get? 7 minus. 10 minus Q plus 2 plus Q plus t and t is equal to? T. 2 This is this we can write it as 2. So, 4 plus Q and what happens now? Q equals to 3. Q is equal to 3 and. P is P is equal to? 7. P is equal to 7, but this 7 includes, Tax. This 7 includes the tax or this 7 is the price that buyer is paying. So, from this graph, we can see here this is 7, this is 3 and let me mark this also 4 and this is 6, again this is 6. So, what is happening in both cases? So, tax let me say here, tax 2 and that is unit tax, that is imposed first on, first on buyer. Seller. First on buyer and second one Seller. Seller. What happens, the P equilibrium that buyer pays goes up, P equilibrium that seller receives goes down. And Q equilibrium also goes down and similarly the same thing happens here, exactly the same thing. Not only they go up both go up, but also go up by the same amount. Amount. In this case this is equal to 7, here also this is equal to 7, this is equal to 3. 5. Sorry. Oh 5, sorry this is equal to 5 and this is also equal to. 5. 5 and these 2 both are equal to 3. 3. So, at least in this example, at least in this example it does not matter whether the tax is imposed on whether the unit tax is imposed on buyer Or seller. Or on seller. Do you think it always happens or because the particular example that I have selected? It is a particular example because you need unit tax case. Do you think it does not happen in case of proportional tax? If this is the supply and demand condition that it then it will happen so. See as it happens in It, it is not because the specific example I have selected. Let me give you one homework that you can do on your own. Do not take a particular example of the supply or demand function. Take, let us take just linear, just do it for any linear demand function, P is equal to a minus Bq, and this is the demand function. B I guess. And this is c plus dQ, supply function and then what you do you impose a tax t on buyer and then you do it for seller. Again you will get the same result, that it does not matter that distortion is the same, exactly same whether it is imposed on buyer or it is imposed on seller. Now, in proportional tax it may change depending on your interpretation. Why it would change? because see, let me just give you a little hint about because I am not going to solve the proportional case, but if you take care of the 1 particular quirkiness of this case, then again you will get the same example, same result. Let us look at the proportional case not again in detail just briefly. Tax ok. What happens in the proportional tax case? If it is imposed on, if it is imposed on buyer, go back to the case here it is imposed on buyer. Pd is replaced by P plus t. Here, you cannot replace it by this P in this equation, a minus bQ. You cannot replace it by P plus t. If you do that it means that you are using unit tax fine ok. Now, here for proportional tax what would you do? Sir we have to multiply a proportion quantity p. So, P should be replaced by, P. P multiplied by 1 plus t, there t is not the same as the earlier t, t here is in percentage. Percentage. T here is in the percentage ok. When it is imposed on buyer fine and when it is imposed on selle,r then P should again be replaced on this side, but not both at the same time. You can do only 1 side ok. c plus dQ. So, what is happening if you look at this supply side? Let us say that you are doing it on the supply side, then P is replaced by P plus, P plus t. If you go to the earlier example, just let me write it like this here. What you have here is like this P Q ok. Here the shift is not going to be the same at all the price level, higher the price shift would be higher. So, shift is going to be something like this not exactly the same. So, when you are moving from 100 to 120 and then you are moving from 100, see when just, just an example let us say, earlier we talked about 2, 2 unit change the tax is equivalent to 2 unit. But now let us look at the at equilibrium price. How much is the percentage at equilibrium price. Earlier it is 6; the price is 6 equilibrium price. So, tax is 33.33 percent roughly. So, if you do that here, then its fine, but again it will be distorted a little bit by the because here you have shift as well as rotation. Rotation. This line is supply curve is rotating. So, if you take care of this rotation part by adjusting the tax rate because when you are comparing the 2 scenarios, unit tax case and the proportional tax case, you should talk about the imposition of same tax. So, if you it means you have to take care of the rotation. Then you get the same result, the effect would be the same. It does not matter whether the tax is imposed on buyer or on Seller. Seller. Whether you are talking about the specific tax or proportional tax, you will get the same outcome. Now, what, why it is happening. why it is happening. So, when, but one thing that you should keep in mind, whenever a tax is imposed Q star will go down, Pd star the buyer pays goes up and it goes down. P star. Down. If you leave out some extreme cases, where Pd or Ps does not change? What I mean to say that, Q star will not go up either it remains the same or it go down, P star d either it goes up or remain the same and P star is goes down or remain the same. Same Fine is it clear? Yes.
Microeconomics	Lecture32_Incidence_of_Tax_Effect_on_Surplus.txt	Now, it gives us one more idea, who should government tax, which goods should be taxed, which goods should not be taxed. But to study that lets look at the consumer surplus, producer surplus and tax revenue, we will study this and that is the last topic in this chapter. So, what we had if we go back to the original equations this is 2, this is 10 and q was 4 and p was 6. 6. Here if you remember consumer surplus is equal to this part and this area is equal to half multiplied by. 4. 10 minus 6 multiplied by 4 four minus 4 minus Four minus 0. 4 And how much it is? 8. 8, we have done it earlier too. 8. And how about this is consumer surplus now we have, let us calculate the producer surplus half multiplied by 6 minus 2 multiplied by 4 minus 0. 4. And that is again producer surplus and total surplus is 8 plus 8 that is 16. 16. Now, let us see what happens when a tax of 2 unit is imposed on seller, you can do it for what happens when it is imposed on buyer. So, let us, if it is imposed on seller then supply curve shifts upward ok, this is the shift fine. In this case, this is 4 and this was 6. Yes sir. So, in this case, how much is the consumer surplus? This is 10, this is 6 the new if we have imposed the 2 unit it is 3 it is 7. 10 to 7. And it is 5, can you tell me the triangle that gives us the consumer surplus? 10, 7. 10. 10, 7. Consumer surplus, it is this triangle. 8 to 7. Why it is this triangle? because what is consumer plus the total benefit accrue to the consumer in the transaction ok. Consumer. So, total of 3 units, 3 units are being sold in the market. Hm. For the zeroth at the zeroth level, the marginal benefit to the consumer is equal to 10. 10. So, the benefit would accrue to consumer as long as the marginal value is above 7. So, consumer surplus is half multiplied by 10 minus 7 multiplied by 3 minus 0.. 3 4.5. So, this is equal to 4.5, how about producer surplus this is 2. Producer surplus is given by this triangle, why this triangle because how much a producer is getting 5 per unit and for the zeroth, near zeroth unit the marginal cost is 2. So, total gain from this transaction is going to be 5 minus 2, and so on. So, producer surplus would be half multiplied by 5 minus 2 3 minus 0, by the way whenever we have calculated the consumer surplus and producer surplus, we are getting consumer surplus equal to producer surplus. Do not ever assume that these 2 are always equal, it is just because of this particular example. Example. Ok fine, but we should also not forget the total revenue because; remember ultimately this revenue will be used for the society. So, when we are talking about total gain for the society then we should also include the total revenue calculated because eventually it will be given back to the society. So, we should also include this part and how much is this part, how much is the total tax revenue? Tax revenue, that is 7 minus 5 multiplied by 3 minus 0 and that is 6. Sir if we have if you draw the new supply curve, then the market price we can say 7. Market price, market price is seven, but 7 is not what seller is getting paid, out of that 7, 2 is going to the government. So, how much has seller does not care how much he is getting paid, how much he gets to keep, that is what he is interested in. So, how much he gets to keep, 5 per unit you understand? sir the case of the proportional tax this is fine then the vertical shifts through we can see it very clear. But if in case of that proportional tax the whole curve rotates by an angle because general there is a change in. So, in that case, we will consider the supply new supply curve or the old supply curve. Old supply curve. Old supply curve. Always see whenever we are calculating the producer surplus how do we calculate the producer surplus; it is total gain that has accrue to the producers in the transaction. So, we know his marginal cost originally because this is his original marginal cost, we can include the new one also, but everywhere we have to account for how much money is going to government, but if you look at the old one you can simply say first one is getting paid approximately 5 and his marginal cost was near 2. So, right at the 0 level, his gain is approximately 3 for small amount the gain is 3 and it is decreasing. So, basically, we are interested in figuring out this particular triangle because 5 he is getting paid and his marginal cost is given by this supply curve, you understand that is why we do not we are not looking at the new curve. then in that we have to my subtracting the proportion. Subtracting proportion fine. So total 6. So, how much is total 4.5, 4.5 and 6 let me write it here 4.5, 4.5 plus 6 and that is 15, and earlier we had total surplus equivalent to 16 and in this case we have 15. If you compare these 2 curve the only part that we are getting we are losing is given in the red color, this triangle is lost, this triangle is lost why, why do we lose it? See, what is happening here in this case at this point typically someone is willing to pay a little bit more than 4 and someone some seller had a marginal cost of little bit less than 4. So, if you had matched these 2 people theoretically speaking; then transaction would have produced little bit of gain and that gain would have accrue to both the supply and the buyer and hence to the society. But now, what is happening now this transaction cannot take place because government needs to, they need to pay 1 unit to the government. So, let us say the earlier just for example, say the marginal benefit is around 4.25 and marginal cost was 4 point 3.75. So, difference was 0.5. Now, this transaction cannot take place because different is just 0.5 and what government wants is 1 unit. So, it is not beneficial for buyer and seller to have this transaction in the market, from where they would get the 1 unit that is why this transaction will not take place, and this transaction the transaction that would not go through is represented by this triangle and how much is the area of this triangle we can calculate. 4 units. Half multiplied by 7, this is the 7 and this is 5, 7 minus 5 multiplied by 4 minus 3 and this is equal to 1 perfectly equal to the difference between this total surplus and the new total surplus and this is called basically deadweight loss. Deadweight loss. So, again without getting into detail deadweight loss is you can if you can think of that we are thinking that government wants to do good for the society then we can think of this deadweight loss as the cost of tax collection that society has to pay this cost as to collect the tax ok. So, I the coming back to the earlier question it is beneficial for the society to tax the goods when we where we have least deadweight loss. So, this can be a criterion that which good should be taxed the good which have less deadweight loss fine. Now, I am not going to give you a general result, but just simple that you should look at it here. Let us look at in this example how much is the deadweight loss in perfectly inelastic supply case 0. How about in this case, when we have perfectly how much is the deadweight loss here, no deadweight loss? 0. 0. Case 2, 0. 0. So, you can consider these scenarios where tax can be imposed and society would not incur any cost fine you can think of like for example, petrol’s demand is fairly inelastic in the short term, someone was talking about because recently the price of petrol was raised significantly. So, why? So, why does government tax petrol because petrol demand is fairly inelastic, do you see how much is the deadweight loss? Very very limited. So, it is a good, you know good product to tax but I am not saying that government should consider only this particular criteria although it is not within this chapter but I just want to say like for example, milk’s demand is also fairly inelastic. Inelastic. But milk should not be probably taxed because you know poor people also need to have milk and if it is tax they will have to because demand is inelastic, they will have to bear the burden of tax. So, there are some other criteria also, but that is not in the purview of this particular chapter, that we can discuss later as we progress. As we are moving from one chapter to another chapter, we are building our basic tools to understand an economic phenomenon that is the aim and slowly and gradually we will build our toolkit ok. So, now, that brings an end to this chapter.
Microeconomics	Lecture39_Describing_Utility.txt	Now, we are ready to talk about preferences and utility. Remember earlier I talked about diminishing marginal utility, marginal value that is the term I used and I said that demand curve is the downward. I had shown you. The demand curve is a downward sloping, downward sloping curve when we have diminishing marginal value. The first question is what is the value, what do we mean by this value, how do we get this value that is the value, but that is not the marginal value. That is the value. Marginal. Of the value is defined as the maximum that consumer is willing to pay for that good that what is the marginal value. One that a consumer wants to pay for one more good. That is one way to put it. Let me talk about it from a different angle little bit different angle. Can I say this value is somehow related to pain or pleasure, or satisfaction faction or happiness that we receive from consuming a good. Can I say that, the value is coming from that? In economics let me put it on onset that there is a special term that we use and that is utility rather than value, happiness. I am going to define this term little later in more detail much more mathematical fashion. But utility is term in economics that gives this talks about this value that satisfaction or that happiness. But whenever we talk about the value in this strict sense what we think is that one can measure this satisfaction level, one can measure this happiness, one can measure this pleasure that one gets from consumption of a good and that is what utility term let me talk about bantam Jeremy Bentham and John Stuart Mill, J S Mill they were proponent, they gave this utilitarian concept they talked about utility ok. So, when they talked about it what they thought that of course, happiness can be measured, pleasure can be measured, pain can be measured and he talked about that the measurement the unit would be is going to be utilities or in other words by consuming an apple you get 5 units of utils or by when you break your finger then you get certain pain. So, then it would be measured minus 10 units of pain and that is what they thought, but it can be measured it can be added that person a has if this someone is showing movie and 5 people are watching it then one is getting utils 5 utils second is getting 10 utils and so on and how much is the total happiness these can be a Bentham and Mill, they thought that these can be added. And what I can I guess not I guess what they have in mind that at that time that they thought that they thought that at present they do not have access to any such machine which would measure the level of happiness. But in future people would have access to such machines. So, utility the happiness can be measured. But unfortunately a long time after they came up with this concept still there is no machine available in the market that will measure your level of happiness and compare it with his level of happiness it cannot be compared. So, what people realized that it is not important to have such a strict and such strict definition of the utility and happiness and more importantly people realize although I told you because that was the beginning chapter that we get downward sloping demand curve because of diminishing marginal value. We will see later on that diminishing marginal value is neither sufficient nor necessary for a downward sloping demand function. But we still talk about it because it relates to downward sloping demand function in a very understandable manner, but we will come to that and we will say that how we were wrong fine. So, what then, after this realization that utility cannot be measured and compared, people thought that what is important for making choice demand is of course, about making choice we are talking about consumer theory. In fact, when we finish towards the end of this chapter we will again start talking about demand function. So, when people are making choice we do not need to make such a strong assumption that your level of happiness can be measured. What is more important is that you as an individual should be able to compare two different bundles. You should be able to say let us say if we have bundle 2 comma 1 and 1 comma 2 you can have 2 comma 1 as food comma cloth or it can be guava comma mango does not matter. Let us take food comma cloth if you have these two options available 2 units of food and 1 unit of cloth versus the other bundle which has 1 unit of food and 2 units of cloth, it is not important that someone or you should be able to measure your level of happiness if you consume this and your level of happiness if you consume this and see the difference. What is important for you is that you should be able to compare your level of happiness from this bundle with your level of happiness from the other bundle. The important term is comparison rather than the exact value, the exact level of happiness that you derive. If you figure out for yourself forget about others. Remember there you cannot even for yourself, you cannot figure out the level of the exact level of happiness, but you can of course, compare you should be able to compare that for some it is possible that they would prefer this some other they would prefer this does not matter. What is important that one should be able to compare all the bundles available to oneself. Is it clear? So, what we are doing you will see that we are moving from exact valuation to comparison. So, over the period economists have developed the consumer theory using these comparing, comparing philosophy rather than the exact valuation philosophy. And what they realize what they thought that theory should be based on as little assumption as possible. Of course, when you know the exact valuation, let us say it gives you exact 10 value and it gives you exactly 5 value then of course, you can compare it with this that 10 is more than 5. So, you like this more. But even when you are not able to figure out 10 and 5 you are able to figure out here it is more and here less in comparison to the first one that is good enough for comparison. So, this is a much more stronger assumption than the comparison the assumption required for comparing and theorists in economics they thought that their assumption should be as weak as possible because when you make assumption you limit yourself. So, theory should be general enough. So, over the period they have developed consumer theory using these weak assumptions. And some of the building assumptions here are given as axioms and what are the axioms, the axioms are kind of a starting point beginning point you take those axioms as given. You do not and no of course, if someone makes a wrong if someone starts with a wrong axioms he or she would end up at the wrong place because the axiom the first step is wrong fine. But the idea is if we broadly agree that these axioms look fine then we can develop a theory using these axioms. So, we are going to develop, we are going to talk about some axioms and using those axioms we will develop, we will learn to talk about preferences and then we will develop our consumer theory. So, these axioms they put some regularity.
Microeconomics	Lecture74_Isoquants.txt	Let us move little further, coming back to the production function again. We will go back and forth rather than finish one and go to another, I am describing it in this particulars way; so, that you can relate the, these 2 representation. So, now, we have, we had drawn a graph where we have 1 input and we have 1 output. Now, let us say what if because I said that production function we will do when we have only 1 output. I did not put any restriction on number of inputs, what will we do when we have let us say 2 inputs and 1 output. Then we We will have a 3 dimensional graph. We can have here input 1, input 2 and on the third axis we can have output, that is one way to do it, but this is quite if this 3 dimensional graph is little less tractable than a 2 dimensional graph. So, a better way to represent this production function is to use something called isoquant. And what do we mean by a by an isoquant? What is an isoquant? Isoquant is a curve having fixed output. Not bad. So, what we have is basically a set of input combination or vectors, why I am saying vectors because vectors is well suited to represent the input combination; That after transformation, give out the same amount of output. Let us say for example, say Q not for a particular level, further the same combination, further the same combination cannot be used, cannot provide more than Q not output that is very important, this is very important. For example let us take is it clear, let us take this here we have 1 dimensional world where we have 1 input and 1 output. So, 2 dimension input is 1 dimensional. Fine, now we have the example that we took root x, can you tell me the isoquants here, single point at any level let us say we talk about y is equal to 5. So, we draw a line y is equal to 5. So, it is only. 25. 25 units of x would give us 5 units of y. So, isoquant y is equal to 5 has only 1 point. Has only 1 point, we are talking about and that is x is equal to 25. So, similarly what did we do here, we try to obtain basically isoquant is nothing, but a level curve of the production process, isoquant. Let me say an isoquant is a level curve of the production function and how do we obtain the level curve, we draw like here in this case we draw y is equal to a, if we are interested in level curve a then we draw y is equal to a and here in this case it is a line and of course, it will intersect the curve wherever it intersects the curve all those combination would be on the isoquant. Isoquant. So, it is in 1 dimensional. So, we get only 1 point, but what we have typically here in the 3 dimension. Where input are on 2 dimension and output on the third dimension what we do when we draw y is equal to a what do we get a plane. Plane. A plane. And then we may get more than 1 point. Y is equal to a will be a plane here. little bit thing. So, what we this plane may intersect the production function at more than 1 point and all those points will be on isoquant y is equal to a. a. What it means that you take the combination of those inputs you will be able to produce a amount of output and you cannot produce more than a amount of output ok, fine. So, for example, let us take 2 dimensional world that you have already looked at earlier, let us say the bread, let us continue with the bread example, the production of sandwich. What we have here is y is minimum of x 2, x 1 divided by 2 and x 2, x 1 is amount of bread and this is butter. How, would the graph look like here? Right curve. In this, try to draw a 3 dimensional. Set of things. Ha. A set. Here is set of plane. It would not be a set of plane. Anyway think about it, that is what I said, the easier way is to use the concept of isoquant to describe this production function. How can we describe it, we can take a particular value of y starting with y is equal to let us say 1. So, to get 1 units of, 1 unit of sandwich, how many units of bread you need 2. 2. And what we need 1 unit of butter. Butter. That will give, so let me say this is the line, here we have 2 and here we have 1, but also notice in this particular case even we if we have 3 bread, 4 bread, 5 bread or just 1 unit of butter we are still able to produce only 1 sandwich. So, all these lines here that represents that butter remains fixed at 1, but amount of bread keeps on increasing, does not matter we get the same amount of sandwich and similarly in the other direction also. So, this is the isoquant and similarly we can draw for y is equal to 2, y is equal to 3 and so on. If you remember sorry, is it clear these are the isoquant 1, 2, 3 we had drawn very similar curves when we talked about indifference curve ok. In case of perfect complementarity between 1 goods, can you say what is the big difference from there and here, any difference that you can think off. Any difference that comes to your mind from the earlier case or it is exactly the same. Production, we have there. Of course this is we are talking, I am not talking about the process I am talking about mathematically what is the big difference of course, here we are talking about production and there we talked about consumption. Consumption. Now, of course, that is the difference, but here the bigger difference is that 1, 2 and 3 these are cardinal in nature. which are ordinal in nature. They were ordinal, they were the 1, 2, 3 there represented only the levels. Here these are cardinal. Cardinal. 2 is twice as much as 1. 1. So, if you think in this way, this topic is much easier than the consumer theory isn’t it that here everything is cardinal. You do not have to you know here that is what we deal with all the time numbers and immediately if cardinality pops in in our mind. So, this is what we are more familiar with and so we will use the very similar concept fine, is it clear ok. Let us look at one more production um, one more isoquant and this time for Cobb Douglas function. And how can we represent the Cobb Douglas function. Here be particular about it when we say Cobb Douglas function, we write here x 1 a x 2 b. b. Where a and b are. Greater than 0. Greater than 0 and typically, I am not saying always that a plus b is equal to 1 , but this is not true always that we will learn shortly ok. Here, be careful you cannot do the monotonic transformation you can do if you are putting log on both side then of course, log x 1 plus b log x 2. Remember earlier we did the monotonic transformation and we took this out. We said that level would be preserved. So, we do not need to put here log, but here we have to put log because the numbers have meaning. So, we cannot take blindly monotonic transformation on only 1 side, is it clear to you. yes. And isoquant in the case of cobb douglas function would look like something like this. Downward sloping curves. Downward sloping curves, fine.
Microeconomics	Lecture23_Price_Elasticity_of_Demand.txt	Now, let us start a new sub-topic, elasticity. Have we learned about the demand curve? The demand is a. downward sloping curve. Downward sloping curve meaning, that when price of a good goes up having everything else constant the quantity demanded for that good. fall down. Falls and vice versa, but this is very important information that price and quantity demanded move in the opposite direction. That is what we have learned, but how quickly how much is the response, let us say if I increase the price by one unit do you think that for all demand functions the fall in quantity demanded would be the same? no sir. No, it would vary, for some goods you would have huge response, in huge change in quantity demanded. While for some other good you will observe almost no change in quantity demanded. Let us take an example, let us say that price of salt goes up by 100 percent. Do you think the quantity that you demand of salt would come down heavily? no. No, it would almost remain the same. It is not going to change much. But now let us say the price of apple goes up by 100 percent, do you think you will demand the same quantity of apple? no. No, your quantity demanded for apple would go down substantially. So, we took 2 examples salt and apple and we saw that the price responsiveness of salt is almost 0. Although, we didn’t bring any data, but through our experience we have this information while for apple, the price responsiveness is quite high. So now we will study this. We will try to figure out, we will try to measure this price responsiveness of quantity demanded. And that is what we will study in elasticity. So, basically in simple word, if I can say elasticity measures responsiveness of one economic variable with respect to another. So, can you tell me the name of those variables which I discussed when I described the example of salt and apple? price and quantity. Price and quantity. So, we are trying to measure the responsiveness of quantity demanded with respect to. price. Price. And this is called price elasticity of demand. But before we go into this particular term price elasticity of demand, let us talk about just elasticity. Forget about the definition I just the description that I gave you that elasticity measures the responsiveness of one economic variable with respect to another. What do you think when this word comes to your mind elasticity? Let me give you a day to day example of rubber, when we put little force and this rubber stretches. What do we say? This rubber is. elastic. Very elastic. And I put same kind of force on this pen, the length of this pen does not change. What we say this material is, inelastic. Inelastic. Although, this example is not perfect in a sense that also we have to think about the range of the force that we are applying and things like that. But you got the picture, that when we apply the force and we observe a great change in the length. We call that item, we call that material elastic. So, similarly here we are talking about of course, length and force, they are not variables in economics. We do not study these things in economics. But what we study is demand price things like that. So, what we are trying to say here price elasticity of demand if we apply little change in the price, and what we observe is great change in quantity demanded. Of course, we will call it that price elasticity of demand is very, very elastic. That or in other word that demand is very elastic. And we apply a great change in the price, and we observe very little or almost no change in quantity demanded. We can say that the demand curve is inelastic. One more thing you should also understand in this rubber example, if we put you should know that the unit of force that is newton or dyne. So, if we measure the force in newton and change in length in meter, we will get one value. But what if we change the newton to dyne and keep measuring the length in meter will we observe we will get the same value, no. We will get different value. So, similarly here in price elasticity of demand, if we measure the change in price in rupees and change in quantity in grams, we will get one value and when we measure the change in price in rupees and change in quantity in kilogram, we will get a different variable. So, it is good idea to make this definition unit free. So, it is it does not because, you know when you are talking to your friend sometime you do not know whether you are using rupees or dollar or kilogram or gram. Not that much in sense of rupees and dollar, but definitely in sense of kilogram and grams. So, it is good idea to make it unit free. So, rather than talking about just major of course, it is major of responsiveness. But one thing we can add here is to make it better is elasticity measure the proportional responsiveness. What does it mean? That rather than measuring the change in quantity demanded in absolute term what we measure is percentage change in quantity demanded with respect to percentage change in percentage change in. price. Price. So, let me write it, price elasticity of demand is percentage change in quantity of a product with respect to percentage change in price of that product. Is it clear? Let us elaborate it little bit more. How can we write this? delta q. Let us say, I will use calculus, but little later on. But first let us do it without using any calculus. Let us say earlier price was P and quantity demanded was x. Now price is P plus delta P, and quantity demanded is x plus. delta. Delta x. Can you tell me what would be the price elasticity using this information? delta x by x upon delta P. So, first we have to calculate percentage change. So, let us write the percentage change in quantity demanded x plus delta x minus x divided by. x. X. If you are using the original quantity. And if you are using the final quantity, then it will be denominator will be x plus delta x. And here you will get P plus delta P minus P divided by P. So, basically and to convert it into percentage, you will multiply here with 100 and also here with 100. So, these 2 will get cancelled. So, what you eventually get is this again get cancelled here. So, what you will get delta x by x divided by delta P by P. Or you can write it also P by x. delta x. Delta x by delta P. delta P. So, for an example, just let us take an example, that we are talking about increase in quantity demanded. Let us say original quantity was 100. And the final quantity is let us say there is 20 percent increase in quantity demanded because of some increase in price. So now, from 100 you have quantity demanded, now new quantity demanded is equal to 120, fine. So, when you move from 100 to 120, you get 20 percent increase. But if you move from 120 to 20, you get. 20 upon 120 by 6 Approximately. 16 percent. 16 percent decrease. So, just to get rid of this sort of problem, some time what people use, and I will eventually give you another formulation then you will not have this kind of confusion; that rather than using x or x plus delta x in the denominator what people do people take average of initial quantity and final quantity and also of initial price and final price. So, what you get again new formula is delta x divided by x plus delta x by 2 divided by delta P, P plus delta P by 2. What I am doing here I have of course, jumped few steps, but what I am doing here that in denominator in the quantity change side also in the price change side, I am using the average of initial quantity and. final. Taking final quantity. Similarly, on the price change side, we are taking the average of initial price as well as the final price. But this confusion is because now we have 2 formulas, because I do not think any one of you would take x plus delta x in the denominator, but at least now we have 2 formulas. Why are we talking about discrete and big changes? So, one thing that we can do that typically elasticity is measured at a particular point on the demand curve or on the demands due. So, if you have you know the calculus, then what you can do, you can say that let us say, to measure price elasticity of demand at a particular point what you will see that what is the rate of change in. quantity. Not just quantity. (Refer Time: 13:28) Rate of change in the Proportional or in other words rather than saying it is rate of change in quantity. It is proportional rate of change in quantity with respect to proportional. change in price. Change in. price. Price. So, in other words what we are doing; that we are taking delta x, we are taking a limit that delta x, or not delta x because here we are taking delta X as dependent variable. So, delta P moving to 0, what we will get in that case? Elasticity we will get as. delta dash. If you look at this formula here P by x. delta P. Delta P. And this is the mathematical formulation of elasticity using calculus. And this is mathematical formulation of elasticity, price elasticity of demand without using calculus. Now, one more thing what we know is that quantity demanded and price equilibrium price in the market, they move in the opposite direction. We already have this information. So, sometime in most of the books you will see that epsilon is always given as the positive number. How do we get the positive number? Because if you calculate the price elasticity of demand using this particular function, you will always get as a. negative. Negative non-positive number. It can never be positive. But whenever it is described in books it is always given as positive number. So, we just add a minus sign to make it a positive, do not get confused about it just to make the price elasticity of demand the number as positive number. So, when someone says that price elasticity of demand for let us say apple is minus 2, you immediately you would know that this minus sign is not being used in the formula. Because if you use this portion you will automatically gave get minus. But someone says that price elasticity of demand of Apple is 2. Then you should immediately understand that person who is saying has put a negative sign, there to make this number a positive number. So, if idea is clear in your mind you would never get confused about it. Fine, it is clear?
Microeconomics	Lecture27_Factors_Affecting_Price_Elasticity_of_Demand.txt	Now, let us talk about factors affecting price elasticity. We are again coming back to price elasticity, price elasticity of demand. Can you think of factors? Time: can you explain it how. Student: Airlines. Student: Air like with time like today we are producing one good and today we think that there here the utility is very high because. We have not discussed utility yet. Student: Sir, demand for the good is like take the example of insulin like today for diabetes there is only one medicine insulin. So, its elastic it is completely inelastic, but tomorrow we can have more substitute medicines for diabetes. Student: So, that is not a factor of time sir. So, he is expecting that with time it will change. So, more realistic example would be let us talk about today we had a huge increase in petrol price. Let us take example today the demand for petrol is very inelastic, you already have a car, you already have a vehicle motorbike and you need to travel to the destination wherever you want to go, you do not have any other option, but tomorrow in the long run little longer run you may buy, you know people when it comes to buying decision you will buy more fuel efficient car or you will buy car which. Student: Does not require petrol. Does not require petrol may be electric car or diesel car. So, in the long run your demand for petrol is not that inelastic. So, time matters fine. is it clear? Again, the same example that we are talking about, but that is unrealistic we do not know whether we will have new medicine tomorrow or not, but theory was same thanks and any other. Student: Sir, location. Location how. Student: Like the price of some the price of an item increases if its availability at some places more difficult to deliver. Ok. Student: For example, if we have a samosa in an airport, it is of 20 rupees, but we have that same samosa in a flight, it would be of rupees 100. So, it is the service that provides in the airlines, so that. See again when we change the location basically, we are talking about two different goods. In airline it is not the same samosa, even though it is a, it tastes the same or same product. When we are talking about samosa, here we are talking about samosa in this particular locality. So, we are changing the change in the price would be explained by elasticity of the demand. So, when you want to buy let us say samosa in a city, you know there are substitutes, what you are talking about basically is the availability of substitutes. For example, let us say Ramu kaka is selling samosa and he has increased his price, but possibly Shamu Chacha is also selling samosa and he has not increased the price. Student: Sir, if we go for same product from same location, for example, Pepsi, if we buy a Pepsi inside a movie hall it is of 50 rupees. No, it is not you are you are thinking that the products are the same although you did not attend that part where we talked about that we distinguish a product in economics using location, attributes you are just thinking that because they are the same attributes they have the same attributes they are the same product, but location also changes the product. For example, a better example would be for you to understand that same umbrella the demand for the umbrella, because demand would change, we are not talking about see in that sense time and location that we are talking about just we are changing the time and we are also going to change the location. Let us say today here in Kanpur the demand for umbrellas may not be very high. But if you know if it is rainy today or tomorrow the demand would increase. So, in this context, we are talking about two different products umbrellas on a summer day, sunny day and umbrella in a rainy day. So, these two are two different products. So, when we change the location also when we change the time same thing you can talk about in terms of time that umbrella in October or umbrella in November when it is not raining and umbrella in July I am not using time in that particular sense I am using time in a different sense. So, location or time if you are using location in the same senses you can use time also in that sense. So, you are changing the product, you understand that is why I would not say that location is that good explanation. Student: Sir, but when we talk about like the goods we export, like consider an example of jute bags fancy jute bags, in India, you do not give you do not give much value to them, but in foreign countries, they are considered as a good of luxury. So, their prices are much different. So, demands are different. So, we are talking about two different goods even though they are same bag. The locations are different timings are different, that is two different goods. So, time, but one thing you can talk about availability of substitutes. A Pepsi increases its price, you will drink Coke. So, it cannot your demand for Pepsi will not be very inelastic. Student: Inelastic. It is going to be. Student: Elastic. Elastic. But petrol in the short run that we are talking about today, it does not have your car runs on petrol then you cannot pour diesel in it. So, at present it is very. Student: Inelastic. Inelastic, but in the long run what you would do you would not if the trend continues the petrol price keeps on raising while diesel price remains the same, people would buy more and more diesel cars. So, in the long run it will be relatively less inelastic fine. Third factor is budget share what does it mean? Let us say the price of salt goes up, your consumption of salt would not change for two reasons; one probably you do not have substitutes for it available for it, but also that you spend a very tiny fraction of your income on salt. Probably you spend 1000s or 10,000s of your income on salt. So, if it goes up by double, you spend on by 5000s hardly it matters. But now if we talk about expensive product the price of LCD goes up LCD TV goes up by 100 percent probably most medium-income group people would no longer demand LCDs. So, budget share also plays an important role, if the good purchase decision of a good requires a significant proportion of your budget spent on that good then it would be highly elastic otherwise it would be inelastic. Again, in reality these factors work together in or in certain combinations fine. Fourth is income, now how here I am budget share, why I am distinguishing it. Here even though income is fixed and then we are talking about change in the budget share that you need to spend on that good, but here I am talking about the change in income fine. Budget share is the function of the price of that good and also income you can obtain because of a change in income or change in price of that particular item, but here now I am talking about income. So, how income is just here it is written normal good and inferior good. Now, let us it works well with a combination of the second factor that we will again study in more detail later on, but just look at it availability of substitutes if no substitute is available what do you get? Student: Inelastic. Inelastic and if substitute is available, you get elastic why substitute is available you shift to the other good. Student: Other good. Now, let us look at income you can have two different kinds of goods: normal goods or an inferior goods. When it is normal good your income goes up what will you do you will buy more of that good. So, it will reinforce this effect here in the substitution, they work in the same direction. Let us take for an example Pepsi, your income goes up your income goes up, probably you will consume more Pepsi fine, because I am considering right now it is a normal good. Now, just to contrast it with salt what is happening there you do not have, or I do not think salt is a good example. Let us take potato, let us take potato because potato I gave you gave as an example of inferior good. So, what is happening, income is going up you are consuming less of. Student: Potato. Potato and also because income is going up you will have substitutes available, you will move. So, it is reinforcing each other. While if you talk about the normal good, Pepsi consumption would go up with income, availability of substitutes would not matter that much. So, there it is not reinforcing, but these two effects we will look at in more detail when we talk about consumers’ theory. We will come back to this. So, similarly, you can think of the factors affecting the supply function you got the drift, how we are talking about it.
Microeconomics	Lecture85_Returns_to_Scale.txt	Now, let us talk about return to scale, and then we will talk about elasticity of scale. What is return to scale? The increasing the inputs by a fixed factor, how much the output increases. So what we have been doing so far, if you pay attention that what we did earlier that we took a production function, a simple production function F of K and L fine; and what did we say; that let us talk about production function either in the sense, that we are talking about production function in one variable or in short run one variable or short run and that is how we fixed the value of K to K naught and we varied only L that is, what we did that is one thing we did. Second, when we talked about isoquant, what did we do; we started with this production function, and we say that we will allow K and L to vary, but only in a particular way, so that; and what is that particular way; that Q remains fixed ok. So, something that we have been fixing, third way we are going to now again with the same production function we will take and, what we will say that these factors of productions are increased in the same proportion and we want to see what is it is effect on output. So, let us say one thing that we can do starting with this let us say right now, Q is equal to 10 just for example, and we are producing with some combination of K and L ok. Now, let us say we double the K, and we double the L ok; we double the K and we double the L fine. So, there are three possibilities, when we do that and of course, this is this is the increased you know that the new the production at the new level. There are three possibilities, that this is either greater than, and what does it mean that this is greater than two multiplied by 10. So, when we double the capital and double the labor at the same time output is more than. Double. Doubled fine this is one possibility. The second possibility is that output is equal to twice the earlier output, that is 20 in this particular case and third is that it is less than and that it means that it is less than 20. Now, see what is happening; we are increasing capital and labor in the same proportion. Now, what I am going to do instead of using a particular value, I am going to make it more general. We are scaling up the operation, what does it mean; that we are increasing the input and output in the same proportion here; let us say that factor is t and of course, we will take t greater than 1, because we are talking about scaling up of the operation, we are increasing it. And instead of you are using 2; we can use here t and get rid of this. There are three scenarios and of course, keep in mind that at all place t is greater than 1 fine. So, three things can happen and one of those three things, we have we have described all these three options. So, let us start; start with number 2, what is happening; let us say again, if we go back to let us say Q we are using with 10 capital and 10 labor and we are producing 10 units of output ok. Now, what we are doing; we are taking 20, 20. So, what we can do; if we have capital and labor as factor of production at least this much we can do we can start with 10 comma 10 means 10 units of capital and 10 units of labor and produce the output. And since after using these 10, 10 units we will have 10 more units of capital left and 10 more units of labor left; we will again use and what we will get Q. So, we end up getting 2 Q. So, if we are able to replicate the production process, what will happen; we will get it equal to P multiplied by F of. K. K comma L and this is the case called. Constant. Constant return? To scale. To scale fine; is it clear? Pay attention to this what I am writing; t is greater than 1, I will come back to this t greater than 1. Now, what more can happen is that; now you are using more labor and more capital; you know sometime it happens that when you have a bigger a bigger scale of operation some new production technique you can use and that may increase the output you know in more than this scale and if that is the case we call it. Increasing Increasing return. To scale. To scale can you give me an example, where you know simple example where we can observe increasing return to scale. Let us say wherever one simple example that comes to my mind is wherever you are using let us say pipe, you know for either air conditioning duct or getting the oil from the earth, if you double the size of the if you take the twice the amount of steel the size of pipe would go up more than twice is it clear. So, in that case, output will increase, and of course, what we are assuming that here production depends only on the size of pipe that is the assumption. Because remember we are not saying that K is being increased by 10 percent and L is being increased by 20 percent. We are increasing K and L in the same proportion. So, just a made-up example you know or probably in study, when you study when a person solves you know you can say the input function input variable is mind power. You know let us say that two people are of exactly same mind, when they come together probably the output is twice more than twice collaborative effect. So, that is increasing return to scale. But, probably if you move from two to three output will go up by more than three times, but if probably there will be a level where beyond that, if you bring more mind power probably the output would start decreasing, but mind you similar example I gave you earlier, but what is the difference here we are increasing all the inputs in the same proportion, but for the example sake we are taking that we only one input for this production is it clear. And when that happens that the output is less than the t times of the original label, then it is called decreasing returns to scale. So, when do we hit decreasing return to scale, can you tell me from example, because let us say theoretically speaking our production function gives the efficient level of you know if efficient it assumes the efficient uses of all the inputs. So, the example that I am giving you that you have eight minds and then probably the output would not be eight times as much as the single mind. So, what we can do rather than using these eight together, what we can do we can separate these into eight different groups and then again we will get at least eight times as much as the earlier output and we will get the constant return to scale, then why do we hit this decreasing return to scale; you got my question? Yes sir. No; see production function, what is production function? It gives the maximum amount of output possible. Yes sir. So, we are talking about efficient uses of all the inputs. So, one thing in this particular case, because here the assumption is that a firm is doing; remember we are taking the production function view of the firm. So, what would be more efficient; that by putting rather than putting the eight minds together I can separate them into eight different groups? And in that case, assuming that they all have the equal mind power, equal capacity to solve problems then you get eight times as much as output as earlier. So, then what is the need of talking about decreasing returns to scale. See typically what happens; remember the example we talked about the short run, what we said; we started with this F of K comma L and we can take K is equal to K naught and then instead of using F of K naught comma L we typically end up using F of L. Similarly, it is not just like for example, in agriculture we talk about you know you need you need seed, you need water, you need manpower, you need sunshine to grow some crop; typically we because land is given as fixed. So, we miss this land, we did not account for this land, but when we are talking about doubling everything, we may double over everything, but land there is a limit to it, you cannot keep on doubling it all the time ok. So, but in your production function typically this land is missing; in that sense you hit this decreasing return to scale, is it clear? Also like for example, for production of any good, we can double the amount of ingredients not machines. So, some, but, so if; so typically I am talking about those factors of production, which are not explicitly mentioned in the production function; sometime it is impossible to double them and when we are talking about increasing the scale, those factor of production become significant and that is why we end up getting decreasing returns to scale, if truly speaking; we if we can replicate the production process, at all level at the fractional level remember the additivity and divisibility, if we can replicate it and we can scale it you know. So, then what happens you will never get decreasing return to scale you will always get constantly turned to scale, but the assumption is that you should be able to replicate the production process and you should have all the inputs available in available; but that may not happen some of the times and that is why you end up getting decreasing return to scale. In fact, you can show that decreasing return of scale to scale is basically, because there is a limit to increase of one particular factor of production, at least one. You can have more than one factor of production. Sir, but in normal isoquant maps, what we see that first; first at some point there is increasing returns to scale, then it is constant return to scale. That is what I am coming back to that. Now let us let us look at the some of the mistakes that you make. Let us say we are talking about here F comma L ok, oh sorry here we have output Q. Ok. And here we have L, and this is what we have talked about here we should have instead dot fine, and here we are talking about short-run. And of course, we know the factor of productions are K and L. The only thing is that K is fixed, K is equal to K naught from moving from here, let us say 1; 1 to this 2 we are not talking about scale, why; because capital is fixed at K naught and we are increasing only labor we are increasing only labor. So, we are not talking about return to scale here in this particular case. In the long run. In the long run yeah. In the long run the isoquant maps I am talking about. Ok, I get your question hope; I think I got your question. So, let us discuss it a little bit more, then you can ask it again. So, what is happening is; that we are talking, we are what we are doing is; we are talking globally. We are talking about all the levels; we have not specified the level of K and level of L. We are talking about globally ok, but that is really you know typically what happens sometime production function exhibits increasing return to scale, some time constant return to a scale, and some other time decreasing return to scale same production function ok. Here, if you go back to the definition here we are talking about at all level of K and L this should be true let me write it here in the shorthand that F of t K comma t L is greater than t of F of K comma L for t is equal to t for t greater than 1 and K grateful; and for all K greater than 0 and L greater than 0, then what we get is; increasing returns to scale fine. Now, let me say here is equal to fine, for t greater than or equal to 1 for all K greater than 0, L greater than 0, this is CRS. And the third is F of t K comma t L is less than t of F of K comma L for t greater than 1, and this is true for all K greater than 0, L greater than 0, we get decreasing returns to scale. So, here we are talking about this should be true for all the K and L, but that is not always true sometime a production function exhibits. Local return to scale you know rather than having true for the whole range of K and L, but before we do that; we talk about the local level rather than the at global level let us talk about this the value of p. And sir one more thing sir like the example you give off agricultural land that if it curve are covering the whole agricultural land, then it is a very long process. No even. in short. Even for an individual person the amount of land is limited ok; he cannot keep we cannot keeps on doubling the amount of land, keep on increasing the amount of land that he has. but sir, if we assume that the land prices are not increasing, then he can at till significant amount he can doubled his land. So, as long as then it would not be; then at till that level it would at least exhibit constant return to a scale probably it would. If he is not able to buy the land then we would not talk about increasing scales. No, but we do; that is the problem, that we do that the reason is simple that sometimes we do not mention that factor of production explicitly in the production function, that is why I said that is the reason. So, theoretically speaking, what we are the way we define it theoretically speaking we would not have any decreasing return to scale you understand. Sir time, is time one of the functions? If there is a production process, where time is because time is always a factor, input factor we do not mention it the time. And it is fixed. Ok so remember by the way one thing that I should mention here we are mentioning K and L of course, these are flow variable, if you hear the first lesson or second for one of the first lessons, we have talked about flow and stock variable. So, time intercept, but sometime other than here, time is also, independently also a factor of production, but we do not mention it typically; if it is not significant fine ok. So, but before we go into discussion at local level, let us talk about this t; why we are talking about t greater than 1. Particularly here, what if we do t less than 1? So, when t is less than 1, what is happening; rather than scaling up the operation? We are scaling down the operation. So, for constant return to scale, we can take t is equal to greater than 1 or less than 1 does not matter or you can say for all t, but we cannot do for all t or for t greater than. 0. 0 ok, but here we cannot do for t less than 1. Why; because t less than 1, if we are defining; we are decreasing the operation basically let us say let us say here we are here we are K and L and we are moving in this direction ok. When we are decreasing all the input in the same proportion, so we are; let us say if we are at this point K and L, so we are moving on this line fine; if t is greater than 1, we are moving in this direction. And t is less than 1, we are moving in this direction. So, here what would be the definition of increasing return to scale, if you think if we want to define for t less than 1, what should be the definition of increasing return to scale? This one think about this. (Refer Time: 21:49). This should be the definition of the increasing return to scale remember. So, rather than getting confused about it, what we do; we keep we define IRS and DRS for t greater than 1, otherwise if you want to define for t less than 1, then for DRS let me define here for DRS what would be the definition tK tL, it should be greater than t of F K comma L for. T less than 1. T less than 1 for all K greater than 0 and L greater than 0 fine and similarly you can define for the other one fine.
Microeconomics	Lecture36_Few_Examples_of_Changes_in_Budget_Line.txt	Now, let us talk about some examples. It asks you what happens when I say because of some reason because of the island has only 1 coconut tree Robinson cannot gather more than 2 coconut tree in coconuts in a day. What would happen to the budget constraint? This is now an extra constraint. The maximum amount of coconut is limited to 1 in a day. Ok What is going to happen? Ah Remember now earlier constraint that we had was 2c Plus F plus less than or equal to. Plus F less than or equal to 8. Now, what another constraint that I am imposing if I translate it in mathematics, what I am saying. C C has to be less than or equal to 2. 2. And of course, I am allowing all although I did not means and I am allowing that you can gather the fractional amount of coconut ok. Do not worry about it because how I can justify it that fractional amount is coming because I am taking Cruco was on that island for a very long period of time. So, it is the average over 1 year or 5 year. So, fraction is a possibility fine ok. So, now u see what will happen to the budget set. This is F, this is C. We have to cut of the trapezium after 2. So, see So, what we are saying this area is not possible. Hm And now what is this constraint is saying, that this is 4, if this is 2, this area is again not possible. So, the new budget set is given by this and how it is important. Now at least time has changed. So, we do not have it, but you still have it at some places, some in some rural areas. Earlier most of us used to buy various grains and sugar from public distribution system and you had a limitation that you cannot get more than these many cases of sugar. So, this is this situation would describe the earlier PDS scenario. Is it clear? Ok. Now, the second example that we can take is, now let us say that I do not know whether you have heard about it in Bihar; Nitish Kumar government was giving cycles, free cycle to class 8 or class 9, I do not remember exactly, but class 8 girl student and later on he started giving it to male students also. So, now let us see the way it is implemented, we can implement it in a various different way. So, what I am going to do? I am going to put cycle on x axis. and of course, here I am allowing for the fractional amount of cycle. Hm. Some reality and some made up thing and on x axis what I have is the composite good. Hm Fine. Hm. And let us say this is the, this is the budget constraint or the budget line, this is the budget line. Hm. Now, 1 way that this kind of scheme can be implemented that government says let me put it Pc, c, let me put here bicycle. So, I that I can put here B and C is for composite good Pb plus c that represents the composite good should be equal to income fine. Now, one way to do it is to give some subsidy on bicycle. Hm. If government gives unit subsidy, what is subsidy? It is opposite of tax. Tax. So, remember earlier we talked about proportional tax and unit tax. So, I am talking about unit subsidy. [FL] So let us say government gives unit subsidy on bicycle. What would be the new budget set and the new budget line? Sir rotation occurs. So, tell me the equation, equation here what will happen here. Ok. PB minus s. PB minus s Into B B. Plus c. Plus c. Is equals to. I and it simply means is that there will be anticlockwise rotation fine. Hm This is one way to do it. The second way government can say that I give you this voucher and this voucher you can use voucher is worth let us say K amount and this voucher you can use for only 1 thing, to buy cycle, nothing else. What will happen to your budget line? This is the earlier this is bit difficult 1. So, you have to think, what would happen when I give you a voucher? There are 2 possibilities, you can spend your money either on bicycle or on composite good. Student (Refer Time: 06:15). And government gives you a voucher worth k unit and that voucher can only be redeemed if you buy. What will happen to your budget set and the budget line? So, 1 simple thing that you can think about it that earlier line is of course, PB b plus c is equal to I and government is giving let us say that this k can be used for anything. Then it is an addition in the income. Income I plus k, I have not brought that this income has to be. So, then what would be the impact this budget line would shift outward. Outward And the horizontal shift is going to be equal to? k. It is going to be equal to k. Horizontal sorry k by PB. K by PB. K by PB. K. That will be the horizontal shift. Hm. So, this is the shift or these 2 are parallel to each other. Hm. Fine. Hm. But one thing you should notice, how much is the increase here in the composite good. k times. K by, k by 1, that is k. K is the increase there and here is increase is k by PB. PB. But this k that we have increased here that is not possible because this voucher that has been given to you can be used only to buy cycle. Can be used to buy only bicycle, you cannot use it to buy the any composite, any other good. So, you cannot move from here to here. So, the amount at least what you can do you can spend this k if nothing, then you are forced to spend this k on bicycle. So, whatever you do you cannot have less than k by PB bicycle because if you do not have this k by PB bicycle that coupon or that voucher will go waste. Waste. So, what is going to happen, this draw a line from here. Ok. This is you know here you will come. Let me draw it again. So, basically you are moving like this you understand. And how much is this much k by PB, this is b this is c. You understand? is it clear? So, this is not a possibility here the dotted part that is not going to, is it? and this will play a role we will see later on we will analyze this fine. Now, when you buy electricity in India, let us say here you have electricity on x axis and composite good on y axis. Up to certain unit you will have to pay a lower rate. Yes sir. If you go beyond those units then your electricity charge per unit will increase. High. Can you represent it in the in the budget set? Yes sir Its going. First it would be less steep and then it would be more steeper. Then it will be steeper because beyond this you will have to pay higher amount. Let me just describe this example in little more detail, why it is happening. So, that people who are not, people who will have difficulty in drawing they will be able to draw it clearly ok. So, let us say price of 1 unit of complex good is 1 and price of electricity for example, let us say it is just 1 up to 100 units. Let us say your total income is 200. Ok. How many if you are allowed to buy as much electricity as you want at this rate, how many units of electricity you can buy? 200. 200 units. And similarly you can buy up to 200 units of complex good. So, here the maximum will be 200 and here also the maximum will be 200. So, we can draw a line because we know it is an equation of a line and to draw a line we need just 2 points fine. But now there is a more restrict restriction that beyond 100 units, you will have to pay 2 rupees per unit, the new equation will be, but this equation is valid only if E is greater than 100. Greater than equal to. This equation is valid when E is less than or equal to 100. So, one way to do it is to draw this line. When we draw this line, what is happening remember the earlier case from here to here. What is happening, forget this story, but remember the method. What is happening here? The price of electricity is going up. So, this budget curve will rotate from which point, from the maximum possible (Refer Time: 12:14). Complex good point and where will it come? 100. It will come 200 because that is the possibility. So, that is what we will get ok. this is the new line. But if we compare here for the, this is this is not going to help you why it is not going to help you because here you are buying up to 100 units and what is happening for this 100 units, you are paying 1 rupee per unit , but here what we are considering we are paying 2 unit. 2. 2, 2 rupees per unit. So, that is not true. So, what is happening basically is, what is happening, basically this line is coming into effect after this point this point. This point what does it represent? 100 comma 100. This is affordable, but what is happening beyond this point? You are reducing the amount of complex good below 100 and you are increasing going to increase the electricity above 100. So, when you increase electricity above 100, earlier you had 1 is to 1 exchange, but now by increasing 1 unit of electricity you are decreasing 2 units of 2 units of complex good. C complex good. So, this line, this sort of line would come at this point and rather than starting this line from here, we can start this line a parallel line from here and we will get reach to this point. You understand? Fine. What was happening? Here earlier how did we draw? We draw this line, when we do not we started with that we are. So, we are devoting all our resources on the complex good and then we are reducing the amount of complex good and increasing the amount of electricity and how it is going to happen according to the first equation in 1 is to 1 ratio and that is why we got this line. But when we did it in ratio of 2 is to, we got this line, but 2 is to 1 is not valid right from the beginning. It becomes applicable when you are reducing the amount of complex good below 100 or when you are increasing the amount of electricity above 100. So, then you will have this sort of line starting from here fine. So, next time we are going to talk about preferences and utility. Fine ok.
Microeconomics	Lecture13_Supply_Effect_of_Substitutes_and_Complements.txt	Now, earlier in the demand context we talked about complement in consumption and substitute in consumption although, I did not use the term in consumption, but now we need to distinguish because when we talk about complement and substitute, we have to be clear whether we are talking about the demand side or the supply side. Just as convention if it is not mentioned that whether it is demand side or supply side, you should take it as demand side, that is why I did not mentioned that in consumption part but when you are talking about substitute and complements on the supply side, you should always mention it that it is for the supply side. So, what do we mean, when do we say a good is complement in production or complement in supply? Let me write it. Good X is a complement in supply to good Y, good X is a complement in supply to good Y, if an increase in price of good Y increases the supply of good X, and similarly good X is a substitute. So, we are talking about good X and good Y, good X and Y are compliment to each other, if an increase in price of good Y increases the supply of good X and they are substitute if an increase in price of one good, decreases the supply of the other good. Can you give an example, first substitute think about it? Student: Plastic chair to iron chair like. Plastic chair to iron chair; again think about it, we are talking about supply side not the demand side. So, do not think from a consumer’s perspective, but think from a seller’s perspective. One example let me give you from very low tech to high tech, the simple let us take let us say that here supplier of milk, the milk man he supplies milk. Let us say that there is market for cow dung also, earlier when our economy was not developed, cow dung was quiet popular means to get energy to cook food. So, let us talk about that example. So, let us say if there is an increase of price in cow dung, what would happen? Your willingness to supply milk at the same price would increase. Student: increase. Why think about it. Price of cow dung is increasing you want more cow dung. Student: More cow dung. To get more cow dung what do you need? More cows. Student: More cows. More cows mean more. Student: More milk. Milk. So, you will be willing to supply more milk at the same price. So, of course, here cow dung and milk are complement in production. So, that is a very low-tech example. Let us talk about a very high-tech example Boeing Company. Boeing is a manufacturer of airplanes; it makes civilian airplanes as well as military airplanes. Now Boeing uses the same assembly line or same workshop to make civilian as well as military aircrafts. So, if there is an increase in price of military aircraft, what would happen? Boeing devote more a space to. Student: To military. To manufacturing, to manufacture military aircrafts, what would happen to the supply of civilian aircraft? It would go down. Boeing willingness to supply civilian aircraft at the same price would decrease. So, that is why here civilian aircraft and military aircraft, they are substitutes in supply or substitutes in production. So, be very careful these are confusing terms; you have to be very certain that whether you are talking about the demand side or the supply side. Is it clear? So, now we have enough knowledge. So that, to talk about the factors affecting the supply schedule or supply function.
Principles_of_Economics_Macroeconomics	Costs_of_Inflation_Price_Confusion_and_Money_Illusion.txt	♪ [music] ♪ [Alex] Why is inflation a problem? To the person in the street, the costs of inflation are obvious. Prices are going up. What could be worse? But inflation increases all prices, including wages. If all prices are going up, what's the problem? If everyone knew that the inflation rate would be 2% or 8%, then everyone could prepare. And the exact rate -- it wouldn't matter so much. But it's often the case that no one knows what the inflation rate is going to be. In the United States, the inflation rate was 1.3% in 1964. The rate then quadrupled to 5.9% in 1970. And then it went to 11% in 1974. Inflation caught people by surprise. Then inflation went from 14% in 1980 to 3% in 1983. And again, people were surprised. And these changes -- they were mild. In Peru, the inflation rate was 77% in 1986. But then, just four years later, the inflation rate was running at 7,500% per year before falling back to 73% by 1992. Who could possibly predict these kinds of changes? Now high rates of inflation do create some problems, as we'll discuss, but volatile and high inflation rates -- they're really costly. We're going to look at two costs: price confusion and money illusion. Remember from our video on the price system that a price is a signal wrapped up in an incentive. We said then that an increase in the price of oil -- it signals to users of oil that oil has become more scarce. And it incentivizes those users of oil to find ways to economize, such as by moving flower production to warmer climates. But when we have inflation, all prices are increasing. So price signals -- they become more difficult to interpret. There's price confusion. Is that increase in the price of oil -- is that due to greater scarcity? Or is it just due to more money chasing the same goods? Now people -- they're not so sure what to do. And the price system becomes a less effective way of coordinating economic action. Inflation, especially high and volatile inflation, it adds noise to prices. So price signals become more difficult to interpret and coordination is made less effective. Money illusion is another problem. Let's face it. Human beings are not always perfectly rational. So suppose that over several years, the price of a movie ticket doubles. Even when we know that most prices, including wages, have doubled, we might still feel that movies -- they've just become so expensive. "I remember when going to the movies was a cheap date. It's too expensive now." If we think that movies were cheap in the past and expensive today, we might go to fewer movies, even when there hasn't been a change in the real price of movies -- the price corrected for inflation. Money illusion is when people mistake changes in nominal prices with changes in real prices. If we were perfectly rational, then we ought to just care about the real price. But sometimes that's hard to do because we compare things with the way we remember them, without doing all the fancy corrections and conversions in our head to compare real prices. Inflation has other costs. It redistributes wealth and it breaks down financial intermediation. We're going to take up those costs in the next video. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	How_the_Federal_Reserve_Works_After_the_Great_Recession.txt	♪ [music] ♪ - [Tyler] During the Great Recession, several factors about the economy changed, and the Fed needed new instruments and policies to continue to be effective. Specifically, falling interest rates and acute problems in some specific parts of the American economy meant that some of the earlier primary tools, like open market operations, well, they were not going to be very effective. As a result, the Fed used quantitative easing, acquired the ability to pay interest on reserves, and began conducting repurchase and reverse repurchase agreements. Those are big terms, new concepts -- we're going to go through them one by one -- but, overall, those were ways of influencing the economy during and after the Great Recession. First, to stimulate the economy following the crash of 2008, the Fed conducted a kind of quantitative easing. That term can be used in somewhat different ways, but often it means that the Fed swaps money for assets other than T-bills. Recall now that T-bills are the shortest term and most liquitive government securities. By choosing additional types of assets to purchase, and not just T-bills -- well, that allows the Fed to effect different interest rates, longer-term interest rates, and to target particular parts of the economy. For instance, the Fed may target mortgage securities or other assets with longer maturities than T-bills. And again, that helps the Fed lower longer-term interest rates rather than just shorter-term rates. In addition, by purchasing, say, mortgage securities, the Fed can help to ensure that lower interest rates also translate into lower mortgage interest rates, and that will help out home buyers and, one hopes, spur the purchase and creation of new homes. Quantitative easing also increases the bank's supply of reserves, and thus liquidity. Since 2008, excess reserves in banks have increased from about $2 billion to $2.7 trillion. Changing the supply of reserves and the Federal Funds rate, as the Fed did through open market operations -- well, that no longer was going to be so effective in boosting loans. Keep in mind, in this new environment, banks had so many reserves -- they had enough reserves for all their lending requirements. Furthermore, with banks holding so many excess reserves, the Federal Funds market just wasn't so big or so important anymore, and again the Fed had to look for other tools. Additionally, and this is quite important, interest rates -- they'd been falling for a long time, and in recent years, they've been especially low. At times the short rate has been at or very close to zero in a lot of parts of the world. Exactly why this has been occurring is a subject of debate, but the end result is that interest rates in the American economy, for a considerable number of years, were very close to zero, at least for short-term, low-risk investments. That means that a swap of zero-interest cash for near zero-interest T-bills -- well, that might not really have significant macroeconomic effects. So instead of focusing solely on asset swaps, the Fed also tries to change the demand for reserves. But to do this, the Fed had to acquire a new tool -- the ability to pay interest on bank reserves held at the Fed. Suppose, for instance, that the Fed wants to pursue a relatively contractionary policy, as was the case in late 2015. This can help you see how paying interest on reserves might make monetary policy more effective. Well, the Fed now takes its new tool, that rate of interest on reserves, and it raises that rate of interest. That increases the bank demand for reserves, and it also places upward pressure on other short-term interest rates. Since banks can now earn a higher interest rate on reserves held at the Fed, they're less willing to lend at market interest rates, and you see that this new instrument can have some effects on the macroeconomy. So even a fairly low rate of interest paid on reserves -- that can encourage banks to hold a lot more reserves at the Fed, since it can be hard for banks to find superior returns elsewhere at a comparable level of risk. Finally, the Fed expanded its influence through repurchase and reverse repurchase agreements. Now this requires a bit of explanation. A repurchase agreement is an overnight loan or swap of central bank dollar reserves for T-bills. A basic repurchase agreement involves the central bank sending some reserves to the bank, and taking back, in turn, some Treasury bills. A reverse repurchase agreement means that the Fed takes on reserves and sends the other parties T-bills. In each case, this is like controlling the money supply in some way. So, for instance, a reverse repurchase agreement -- that drains banks and other financial intermediaries of liquid cash, giving them a higher rate of return on T-bill holdings and discouraging their investment elsewhere. By the way, if you recall the discussion of open market operations from our previous video -- well, repurchase and reverse repurchase agreements -- they're somewhat similar, except think of these as ongoing renewable rental deals rather than just a purchase. Also, keep in mind that the Fed has been conducting repos and reverse repos with financial institutions other than just narrowly defined banks, and that's to make sure its tools have sufficient impact throughout the broader economy. In sum, the Fed implemented some novel instruments when responding to the 2008 crash. They used quantitative easing; they paid interest on reserves, and they conducted repurchase and reverse repurchase agreements. And those are only a few of the things they did. In any case, monetary policy continues to evolve as economic conditions change. - [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. ♪ [music] ♪ Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Monetary_Policy_and_the_Federal_Reserve.txt	♪ [music] ♪ [Alex] With great power comes great responsibility. Yup, I'm talking about the Federal Reserve, the United States' central bank. Through its influence on the U.S. money supply, the Fed has more power to affect the economy than any other institution. In fact, the chairperson of the Federal Reserve is arguably the second most powerful person in the United States after the president. The U.S. Federal Reserve has the power to create money, to buy trillions in government bonds, and to act as a lender of last resort. And yet, despite these awesome powers, the Fed also has limitations and weaknesses. Monetary policy, which describes the Fed's actions to control the supply of money and influence the economy -- it can only affect real growth in the short run. How come? Well, let's go back to the quantity theory of money, which states that: M x V = P x Y. If M goes up, then in the long run prices go up, and why? Real GDP, it doesn't change. Real GDP is determined by the fundamental factors of growth that we talked about in earlier videos -- human and physical capital, and good institutions. But things are different in the short run. Sticky prices slow the adjustment of P to changes in M, so in the short run, the Fed can have a dramatic effect on aggregate demand and on real output. But even the Fed's ability to affect aggregate demand in the short run -- it can be tenuous because of incomplete data, lagged results, and a lack of direct control. And because of these difficulties the Fed has, at times, made the economy worse rather than better. One of the difficulties is that defining what money is isn't so easy. What counts as money? Is it just paper money and coins? What about checking accounts? What about gift cards? Defining money -- that's the topic we're going to dive into next. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Can_You_Beat_the_Market.txt	♪ [music] ♪ [Tyler] On average, even professional money managers don't beat the market. Why not? It's not because money managers aren't smart. I know people in this sector, and they're very smart. Rather, it's a reflection of the power of market prices to quickly reflect available information. This leads us to Investment Rule #2: "It's hard to beat the market." First, let's consider some possible investment advice. You've probably heard that the American population is getting older -- and that's true. The number of people aged 86 and over, for instance, is projected to increase dramatically over the next several decades. To profit from this coming aging you might think, well, you should invest now in products that the elderly will want or need, such as nursing homes, pharmaceutical firms, and companies that make reading glasses. That's good advice, right? Well, no, not actually. What I just said was useless investment advice. Why? It's useless because the aging of the U.S. population isn't a secret: it's public information. And so the value of that information is already incorporated in stock prices. Suppose, for example, that you took this investment advice and went out and bought some shares in a firm that manages nursing homes. For every buyer, there's a seller. Why is the seller of those shares selling? Doesn't the seller know that the American population is aging? Of course that's known! And so the price already reflects this public information about the aging. So don't expect to make extra profits based on public information. In other words, if your theory of why a trade is going to be really profitable is that the person on the other side of the trade is dumb. Well, that's usually a bad theory. Maybe you're the dumb one. This idea is the foundation of what is called the Efficient Markets Hypothesis. The prices of assets, such as stocks and bonds, reflect all publicly available information. And that means, if you're investing based on that information, you won't be able to systematically out-perform the market over time. Think about it this way: on average, buyers have just as much information as sellers, and vice versa. So that means a stock is just as likely to over-perform the market as it is to under-perform. That's why Burton Malkiel called his book, A Random Walk Down Wall Street. In fact, the mathematical models used by economists to understand the motion of stocks and stock returns are the same models developed by Einstein to explain Brownian motion: the jittery random movement of small dust particles as they're bumped into and buffeted about by atoms and molecules. Stock returns are hard to forecast because old information is already incorporated in stock prices, and new information is by definition unexpected, or random. What if you've got a hot stock tip? Can you then beat the market? It's still highly doubtful. New information comes to be reflected very quickly in prices. Here's an example: At 11:39 Eastern Standard Time on January 28th, 1986, the space shuttle Challenger exploded in a great tragedy, killing everyone on board. Eight minutes later, that news hit the Dow Jones wire service. Things were slower back then before instant messaging. The stock prices of all the major contractors who had helped to build the shuttle, such as Morton Thiokol, Lockheed, Martin Marietta, and Rockwell International, all fell immediately. Now here's what's really interesting. Six months after the disaster, a commission was set up to investigate the cause, which turned out to be the failed O-rings made by Morton Thiokol. Now let's return to the day of the crash. On that day, Lockheed, Martin Marietta, and Rockwell International all fell by 2-3%, but the stock of Morton Thiokol fell by over 11%. The market had correctly figured out that Morton Thiokol was the most likely cause of the disaster, and within hours that information was reflected in market prices, even though a formal investigation had not yet begun. In essence, the people with the best knowledge about the likely causes of the crash could either trade themselves, or tell other people how to trade. And so some investors started selling, and the price of the Morton Thiokol shares started falling, and that new and lower price was reflecting the new and lower value for the company. Now that was back in 1985. Nowadays, new information starts to change markets, not in hours or minutes, but in seconds or milliseconds -- literally faster than the blink of an eye. Okay, now one important point before we conclude. Stock prices aren't pure random walks, but rather random walks with a positive upward drift. It's how well you do relative to the average market return, which is hard to predict. On average, investors can expect to make money over time, and in this sense, some broader general predictability is present. Okay, so Investment Rule #2 says you shouldn't expect to beat the market. So how should you invest? That's the issue we take up next. [Narrator] Check out our practice questions to test your money skills. Next up, Alex reveals how an old saying leads us to Investment Rule #3. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Costs_of_Inflation_Financial_Intermediation_Failure.txt	♪ [music] ♪ [Alex] In our earlier video on the cost of inflation, we discussed how unexpected inflation -- it makes price signals noisier. And it encourages mistakes from price confusion and money illusion. Another cost of inflation is that it makes long-term contracting riskier. Suppose that a bank lends $100 at an interest rate of 10%. But suppose also that over the year, the inflation rate is 10%. At the end of the year, the borrower pays back the bank $110. That looks pretty good on paper, but during the year, money has become less valuable. Due to inflation, what used to cost $100 now costs $110. So, what is the bank's real return? Zero. More generally, we can write that the real interest rate is equal to the nominal rate, the rate charged on paper, minus the inflation rate. Inflation reduces the real return on a loan. So inflation redistributes wealth from the lender to the borrower. That's exactly what happened in the 1970s in the United States. Suppose, for example, that you had taken out a home mortgage in the 1960s. As a borrower, you'd have done really well, because few people anticipated the high inflation rates of the 1970s. So, borrowers ended up paying off their mortgages in dollars that were worth less than anyone had expected. Of course, if lenders expect that the inflation rate will be 10% over the coming year, they'll adjust the interest rate that they charge. If the inflation rate is 10% for example, then in order to get a real return of 5%, lenders must charge 15%. More generally, nominal interest rates will rise with expected inflation rates. This is called the Fisher Effect, after the great American economist, Irving Fisher. You can see the Fisher Effect in this data from the United States. Notice, for example, how interest rates and inflation rates were low in the 1960s, but as inflation increased so did interest rates. Interest rates reached a peak of almost 20% when inflation hit 15% per year. Since that time, inflation has fallen, and so have interest rates. So, suppose instead that you took out a mortgage at an interest rate of 17 or 18% near the peak of inflation around 1981. What happened next? Unfortunately, for you as a borrower, inflation fell from 15% to less than 5%. You were willing to take out a mortgage at the very high interest rate of 18% per year only because you expected that your wages would be increasing by at least the rate of inflation -- 15% per year. But when inflation is increasing your wages at only 5% per year, the real cost of paying your mortgage is now much higher than you expected. When the interest rate is 18%, and the inflation rate is only 5%, that's a real rate on your loan of 13%. That's a great rate for the lender, but it's a terrible rate for you, the borrower. So summarizing, we see that when inflation is higher than expected, wealth is transferred from lenders to borrowers. But when inflation is lower than expected, wealth is transferred from borrowers to lenders. Now, imagine that inflation is high and volatile, so it's difficult to predict whether the inflation rate will go up, or down. As a lender, do you want to lend? No. You fear unexpected increases in inflation. As a borrower, do you want to borrow? No. You fear unexpected decreases in inflation. So, when inflation is difficult to predict, people fear borrowing and lending. And financial intermediation, the process of moving funds from savers to borrowers, it begins to break down. As inflation heats up, for example, long-term mortgages and long-term lending of all kinds becomes more costly and less common. The economy becomes less able to generate and coordinate savings with investment. And as a result, total wealth declines. In the next video, we'll look at a final cost of inflation. Once you get started down the inflation path, inflation is very costly to stop. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Game_of_Theories_The_Keynesians.txt	♪ [music] ♪ - [Tyler] Business cycles and recessions are some of the worst things that can happen to economies. They mean lower output and higher unemployment, and more human misery. Now, in macroeconomics, the causes of business cycles -- that's a contentious topic, and it involves at least four major schools of thought: the Keynesians, the monitorists, the real business-cycle theorists, and, finally, the Austrians. And if you disagree on the causes of business cycles, odds are you'll also disagree on the proper remedies. In this series of videos, we're going to dive into each major business cycle theory and then use them all to better understand the Great Recession of 2008. Let's start with the Keynesians. Keynesian economics is named after John Maynard Keynes, a British economist who, in 1936, wrote a very famous book called "The General Theory of Employment, Interest and Money." In Keynesian economics there's one key idea, and it's called aggregate demand. So this is very different from the doctrine of real business-cycle theory where the key problem is supply. Now, if you understand this idea of aggregate demand, you'll see, as we get to why Keynesians tend to favor activist monetary and fiscal policy. But first, let's work through aggregate demand just a bit. Let's break it down into its component parts, "C" plus "I" plus "G" plus "Net Exports." That's consumption plus investment plus government spending plus how much we're selling abroad to other countries on net. Those pieces of the puzzle -- that's how much flow of expenditure or aggregate demand there is to sustain labor hires in a given period. That is what, in the Keynesian model, keeps people at work. Now, there's a key assumption here. In the Keynesian model, typically, nominal wages are sticky. Think of a wage as just another price. It's the price of labor. In a typical market, if demand falls then the price falls and the market clears. If that were true in the labor market, a drop in aggregate demand would mean wage cuts, not people losing jobs. But wages aren't like many other prices. They don't always adjust so quickly, hence we say they are "sticky." Why is that? Well, there may be a long-term contract. There may be a law, such as the Minimum Wage Law. Or sometimes it's just worker morale. So how does that work then? Well, if the flow of aggregate demand expenditure into an economy slows down because wages cannot be cut, well, then workers have to be laid off, and that will lower the flow of aggregate demand expenditure all the more because there's lower employment, lower production, less being consumed, less being invested. The key example here -- it really is the Great Depression in the 1930s. Starting in 1929, a lot of American banks failed, depositors lost their money -- this was before governmental guarantees -- the money supply fell by about a third, and the stock market crashed. So there was less consumer spending and less investment. This led to a Great Depression and high levels of unemployment. More recently, the Great Recession of 2008 also had a significant Keynesian element. We're going to cover that in a separate video. Keep in mind in a typical Keynesian scenario, if consumption and investment are falling, usually government spending is going to end up falling as well because there's less revenue being produced in the economy, less tax revenue. And unless governments really borrow a lot, well, that's going to hurt government's ability to spend. That will be an additional negative shock to aggregate demand. So graphically, in a simple aggregate demand-- aggregate supply model, what does this look like? It's pretty straightforward. Take the aggregate demand curve and shift that back and to the left, and you will see pretty simply that output goes down in this model. Also in this setting, there may be some second-order effects. The aggregate supply curve may end up shifting back and to the left as well. For instance, imagine some laid-off workers -- they end up demoralized, or they lose their workplace contacts. In the longer run, those people are probably going to be less productive. What are the potential remedies here? Well, Keynesians tend to favor activist monetary and fiscal policies. Central banks should expand the money supply to help maintain that flow of nominal expenditure. They should lower interest rates and have easy conditions for credit. Keynesians also tend to favor a lot of government deficit spending. That is, governments should spend more, start new Public Works programs, try to put people to work, and fund these programs by borrowing money even if the revenue isn't there from the economy right now. Again, the government is doing everything possible to restore that flow of aggregate demand. So what are some of the problems in Keynesian theory? First, Keynesian economics doesn't always explain why aggregate demand fell in the first place. In this sense, Keynesian economics may rely on some other mechanisms. Furthermore, sometimes what Keynesians call aggregate demand problems -- well, yes, they may be aggregate demand problems on the surface, but beneath that there's some deeper, maybe hidden, sectoral problem in the economy, or slow growth or productivity is the actual problem. So there's some deeper malady, and weak aggregate demand is just a kind of symptom. So just jacking up aggregate demand -- even if it's a good short-run protection -- it may not always be the best way of solving your problem. Second, many economists believe that actually monetary policy usually is enough to stabilize the flow of nominal expenditures. If that's the case, Keynesianism, in fact, will evolve into another doctrine called monetarism. We're going to cover that in a separate video. Keynesians also tend to have a lot of faith in government's ability to time and target fiscal policy. But will government spend that money quickly enough? Will government actually succeed in hiring the unemployed workers? Those are all open questions. Another problem -- Keynesian economics predicts that you either have high unemployment or high inflation, but not both at the same time. During America's downturn of the late 1970s, there was a kind of stagflation -- high inflation and high unemployment together. That wasn't what the Keynesians had predicted, and during those years a lot of economists actually turned away from Keynesian ways of thinking. There's also the public-choice critique of Keynesian economics. The Keynesian recipe is to run higher deficits in recessions, but in good times to have a balanced budget or even a surplus. But a lot of governments don't do that. They like having the deficits all the time. So it could be there's an asymmetry built into the Keynesian system, where over time you get too many deficits and too much debt, and perhaps eventually a fiscal crisis. In sum, Keynesian economics is really important. It's central to the modern understanding of macroeconomics. That said, there are also some significant limitations to Keynesian ways of understanding the world. - [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Taxing_Work.txt	♪ [music] ♪ [Alex] Why do people leave the labor force and retire? As they get older, some people have to retire. But for most people in the developed world, retirement is a choice. The choice to retire involves a trade-off between the benefits and costs of work and the benefits and costs of leisure. And governments influence this trade-off through tax and retirement policy. In the United States and most other developed countries, for example, workers can collect payments from a government-run retirement system once they reach a certain age. In the U.S., workers can collect as early as age 62. In other countries, the earliest retirement age is usually about the same, although it can be a little bit higher or a little bit lower. Naturally, most workers won't want to retire until they can start collecting benefits. So the earliest age at which workers can collect benefits influences the choice to retire. Not everyone who is old enough to collect benefits, however, will want to retire. Some people -- they just love their jobs. Government policy, however, also influences the choice of workers who don't want to retire. For example, older workers in the United States are much more likely to stay in the labor force than older workers in Italy, France, or the Netherlands. How come? In the United States, workers who want to continue working past the early retirement age -- they're not heavily penalized. But in the Netherlands, for example, workers who continue to work after the age of 60 -- they lose a significant portion of their retirement benefits. Imagine you're about to turn 60 in the Netherlands. If you keep working, you lose some of your retirement benefits, plus you're still having to work and pay taxes on your earnings. Taking all of this into account, it could actually be the case that you’d make more if you retired than if you worked. Put another way, in the Netherlands, some elderly people have to pay to work. Not surprisingly, most of them choose to retire. In this graph, we're going to plot the labor force participation rates of older males, ages 55 to 64, on the vertical axis. We look at males simply to reduce the number of variables and increase clarity. On the horizontal axis, we're going to graph the implicit tax rate. The implicit tax rate captures in a single index both the actual taxes paid on earnings as well as penalties, such as losing retirement benefits. Countries like Belgium, France, and the Netherlands, with some of the highest implicit taxes on working, are also those with the lowest participation rates. In other words, the higher the implicit tax on working, the fewer older men choose to work. Taxing older workers and encouraging them to drop out of the labor force and collect retirement benefits? This has proven to be an expensive policy in Europe, especially as the population has aged. As a result, many European governments, including the government in the Netherlands -- they've been working to reform their retirement systems and to reduce implicit tax rates. Okay. Government policy, of course, isn't the only force that can change the incentive to work. In the next video, we're going to take another look at the female labor force participation rate. This time we're going to focus on a technology, a technology that changed incentives and also profoundly changed our culture. It's an amazing story -- one of my favorite insights from economics. This technology also inspired a hit song by Loretta Lynn. That's the topic we turn to next. [Narrator] If you want to test yourself, click "Practice Questions." Or, if you're ready to move on, you can click "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Inflation_Throughout_the_Ages_What_Should_You_Do.txt	inflation or deflation can wreak havoc on your personal finances if you don't understand its effects but not to worry our trusty time machine will let us walk through the effects during three historical periods so that we are better prepared for whatever the future might hold ready to begin [Music] it's the beginning of 1893. we're in the Gilded Age imagine you're a farmer wanting to borrow a hundred dollars from the bank to buy one of these newfangled machines called a tractor for the past two years inflation has been at exactly zero percent is it a good time to borrow money from the bank no deflation hits that means that the real value of money is rising over time when you borrowed 100 in the beginning of 1893 it had a real value of one hundred dollars by the end of 1893 with inflation at negative 1.1 percent the real value of your 100 loan has grown to 101 dollars deflation continues and by the end of 1895 the real value of the 100 you borrowed in 1893 is a hundred and eight dollars so in addition to whatever interest you're paying the dollars you're paying back to the bank at the end of 1895 are much more valuable than the ones the bank lent you in 1893. next let's jump to 1946. your spirits are high World War II is over the price controls and rations enacted during the war are going away as a retiree you're receiving a monthly 25 social security check from the government should you Lobby your Congress person to automatically adjust your Social Security payment for inflation yes you should Lobby for automatic inflation indexing inflation shoots up after the war going as high as 14 in 1947. the real value of your nominal 25 check Falls year after year finally reaching a real value of 18.70 by the end of 1948 so while your social security check still says 25 on it you can buy a lot less with it than you could in 1946. to prevent inflation from eating away at the value of benefits automatic inflation adjustments were added to Social Security in 1975. lastly let's look at Venezuela in 2012. Nicholas Maduro of the United Socialist Party of Venezuela is running for president inflation has been high up 21 from 2011. in 2013 Maduro wins the election imagine you're a resident with 1 000 Bolivars the Venezuelan currency in savings should you keep your Bolivars or should you pay high fees to transfer your savings into another currency foreign pay the high fees and transfer hyperinflation hits and the currency devalues by 40 throughout the year if you didn't transfer your savings your 1 000 boulevards would be worth 712 boulevards just one year later unfortunately inflation continues to devalue the Bolivar for several years by the end of 2018 your 1000 boulevards from 2013 only has a real value of 0.11 Bolivars Bolivars became so worthless that many Venezuelans opted to transform their paper bills into art giving it a new type of value as you can see unexpected inflation and deflation throughout history can have huge impacts on the real values of loans income and savings by understanding the effects we can better protect ourselves from the consequences if you're a teacher you should check out our inflation unit plan that incorporates this video if you're a learner make sure this video sticks by taking a few quick practice questions or if you're ready for more macroeconomics click for the next video foreign
Principles_of_Economics_Macroeconomics	The_Solow_Model_and_the_Steady_State.txt	♪ [music] ♪ - [Alex] Welcome back. Let's continue our exploration of the Solow Growth Model. In our last video, we covered how physical capital faces the iron logic of diminishing returns. Now let's turn to another unfortunate aspect of physical capital: capital rusts. Roads get potholes and need to be repaired, tools wear out, trucks break down. In short, we say that capital depreciates. Now let's put the amount of capital on the horizontal axis and the amount of depreciation on the vertical axis. We can then model the relationship like this. Depreciation increases at a constant rate as the capital stock increases. The more capital you have, the more capital depreciation you have. Now let's add a new aspect to our model. Where does the money for capital accumulation come from? >From savings and investment. When we create economic output, we can either consume it or save it. What we don't consume can be saved and invested in new capital. So suppose we invest a constant fraction of our output. Let's say we devote 3 of every 10 units of output or 30% of output to investment. We can now add an investment curve to our graph. It'll mimic the shape of the output line since investment is just a constant fraction of output. Notice that our first units of capital -- they're very productive and so they create a lot of output and thus also a lot of investment. But as we add more and more units of capital, we get less output and also less investment. That's the iron logic of diminishing returns once again. Now let's put investment and depreciation on the same graph. Depreciation is growing at the same rate as the capital stock grows. Each new unit of capital creates an equal amount of depreciation. Now notice that when investment is greater than depreciation, that means the capital stock must be growing. We're adding more units of capital than are depreciating. But as the capital stock grows – investment and depreciation -- they're on a crash course to intersect. When this happens, we've reached what is called the Steady-State Level of Capital. The steady-state is the key to understanding the Solow Model. At the steady-state, an investment is equal to depreciation. That means that all of investment is being used just to repair and replace the existing capital stock. No new capital is being created. Now remember, we've assumed that all the other variables in the model -- they're not changing. So if the capital stock isn't growing, nothing is growing. In other words, when we reach the Steady-State Level of Capital we've also reached the Steady-State Level of Output. Now suppose you ended up on the other side of the steady-state point -- over here. You'd find that depreciation is greater than investment. That means some of the capital stock needs repair, but there isn't enough investment to do all of the needed repairs, so the capital stock shrinks, pushing you back towards the steady-state. So to the left of the steady-state we have investment greater than depreciation and the capital stock is growing. To the right of the steady-state we have the opposite -- depreciation is greater than investment, and the capital stock -- it's shrinking. Either way, we always end up moving towards the steady-state. Now let's go back to our earlier example of Germany after the end of World War II. Since the capital stock is low, it's also very productive and we get a lot of output from the first new roads and factories after the war. We've already mentioned that point. But in addition, we now see that when the capital stock is very productive and producing a lot of output, we will also be producing a lot of investment. So in the next period the capital stock will be even bigger than before and we'll get even more output. Plus, since the capital stock is low, we don't have much depreciation to take care of. So with the investment, it will mostly be generating new capital, not replacing old capital. Now over time, however, both of these forces -- they weaken. The returns to capital diminish and depreciation eats up more and more of investment. A country with a lot of roads, and bridges and factories -- it's doing well, but it also has to invest a lot just to maintain all those roads and bridges and factories. And this is exactly what we saw in Germany and Japan after World War II. Growth rates started out very high, but as those countries caught up, growth rates declined. Now perhaps our friend K still has one more trick up his sleeve to get the economy growing. What if we started to save more of our output? A higher savings rate shifts the investment curve up like this. Now investment is higher than depreciation, so we're adding to the capital stock and the economy is back to growing. However, you can see that the same dynamic exists as before. The iron logic of diminishing returns means that we'll again end up at a new steady-state level of capital. The higher savings rate -- it spurs growth for a time and it does increase the steady-state level of output. But, at the new steady-state, investment once again equals depreciation and we get zero economic growth. Accumulation of physical capital can only generate temporary growth. In our next video, we'll take a look at how human capital influences growth. - [Narrator] If you want to test yourself, click "Practice Questions." Or, if you're ready to move on, you can click, "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Office_Hours_Costs_of_Inflation.txt	- [Mary Clare] Today's practice question is about expected inflation, taxes, and saving. We know that the government taxes any nominal interest you earn on a savings account. So for this scenario, let's assume a realistic 33% tax rate. Now, if you're rational, you should care mostly about your real interest rate after taxes, when deciding how much to save. So in each case, we'll calculate the nominal rate of return after taxes. And then, most importantly, that real rate of return after taxes, which takes inflation into account. As always, check out our video on inflation before trying to solve this problem. And one final note, before we get started. Recall that the real interest rate is simply the nominal interest rate minus inflation. In each of these cases, the nominal interest rate has actually adjusted for inflation, such that the real interest rate before taxes is 3%. In other words, inflation is expected. No surprises here. The real interest rate after taxes, though, which we'll calculate, differs from case to case. So let's tackle that first case. Your savings account offers a nominal interest rate of 6%, and inflation is 3% that year -- fairly low. To make this more concrete, let's assume you saved $100. So at the end of the year, you earned 6% on your $100, or $6 in interest. The government will take a third of your $6 in taxes, so you'll get to keep 2/3 of $6, or $4. You started with $100 and earned $4 after taxes, so your nominal rate of return is 4%. Now to calculate your real rate of return after taxes, the rate that actually matters, we have to adjust for inflation. Inflation is 3%. So after a year, your initial $100 would be equivalent to $103. So you gain $4 after taxes from interest, but three of those dollars are just making you break even, given inflation. So your real gain after taxes is just $1. Given that you saved $100, we could also view this as a real return of 1% after taxes. Just to recap, before taxes and inflation, you earned 6%, but after taxes and inflation, your real gain was 1%. It's a lot lower, but it is still positive. How about that next scenario, when inflation is 9% that year and the nominal interest rate on your savings account is 12%? We won't convert our calculation to dollars this time. So to calculate the nominal rate of return after taxes, we'll multiply the nominal interest rate, 12%, by what proportion we'll actually get to keep after taxes -- 2/3, which equals 8%. Now, for the real rate of return, the one that matters, accounting for inflation as well: 8% minus inflation, which is 9%, equals -1%, a negative rate of return. Surprisingly, you lose money by saving when there are moderate levels of expected inflation. Now, it's time to get more extreme. Let's say inflation is 87% per year, and the nominal interest rate is 90%. Once again, the nominal rate of return after taxes is 90 times 2/3, or 60%. And the real rate of return after taxes? 60% minus inflation, which is 87%, equals -27%. Would you invest in a company that offered you a -27% rate of return? No! So why would you put your money in a savings account with similar results? And keep in mind, just sticking your money under your mattress is even worse, because then you wouldn't be earning any interest. So you would lose even more in real terms. Honestly, I'm scared to do that last calculation, so I'll leave it as a practice question after this video. Just think about how you would respond in this situation. If inflation were, say, 900% per year, the money supply is increasing such that prices are rising daily, and even though it's expected high inflation, the tax system discourages savings. The rational person in this instance would try to spend any money she got as fast as she could. And sadly, this actually makes the problem worse. Because if everyone does this, money is turning over more quickly, so velocity has also increased. The quantity theory of money predicts that prices will rise even more. So the surprising takeaway here is that even moderate levels of expected inflation, like our example of 9% inflation, can still lead to financial intermediation failure when the tax system distorts the real rate of return on savings. You're on your way to mastering economics. Make sure this new material sticks by tackling related practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos.
Principles_of_Economics_Macroeconomics	Office_Hours_The_Bond_Market.txt	♪ (music) ♪ Today we'll take a closer look at the bond market. Suppose you'd like to invest in a company and you've narrowed your choice down to three firms. Company A is offering a zero coupon bond with a face value of $1000 to be repaid in one year at a price of $963 today. Company B has the same face value and maturity date, but sells for $871 today. And Company C also has the same face value and maturity, but sells for $985. What is the applied rate of return, or the yield, of each bond? In which would you rather invest? As always, try to answer this question by yourself. Check out our video on bonds, attempt the problem, and then come back and we can work the problem together. This problem is surprisingly straightforward. It's just the jargon that makes it seem difficult. Mature bonds, zero coupon, rates of return? So let's quickly break these concepts down. A bond's maturity date is when the face value of the bond is paid to the bond holder. In our example, all three bonds mature in one year. And so their bond holders will receive $1000 for the face value of each bond at the end of that one year. Coupon payments are periodic interest payments that the bond holder receives while the bond matures. So a zero coupon bond, in our example today, means you don't get payments while the bond matures. You are just paid the face value of the bond at the maturity date. And finally, what's a bond's rate of return, or yield? It's just what you stand to gain or lose from purchasing this bond, expressed as a percent of your initial investment. Simply divide the gain or loss of the investment by the initial price you paid for the bond to find that implied rate of return, or the yield. So, now that we've deciphered all that jargon, let's plug our first company into this equation. Company A's bond rate of return: what will you gain? $1000, or the face value, minus $963, your initial investment, equals a gain of $37. Divide that gain by $963, what you initially paid for the bond, which equals a 3.8% rate of return. Just a note here, this calculation becomes much more difficult if the bond were to mature after several years. For those of you who would like to tackle this challenge, I've included it as a practice problem at the end of this video. Given that the other two bonds have the exact same characteristics, zero coupons and a one year maturity date, we can speed through these calculations. Company B's bond rate of return is: the investment gain, $129, divided by the initial investment, $871, for a rate of return of 14.8%. And finally Company C's bond rate of return: a gain of $15, divided by $985, that initial investment, for a 1.5% rate of return. We now have our three rates of return. It seems clear that we'd want to invest in Company B. After all, its rate of return, or yield, is so much higher than the other two investments. But stop and ask yourself this question, “Why on earth is Company B offering such a high yield? And why isn't everyone jumping on this great deal?” Risk! Even though bonds are safer than stock holders because bond holders are paid before shareholders, there can still be risk of default. Equally risky assets must have the same rate of return. If they didn't, everyone would buy the bond with the higher rate of return until the prices equalized. So we basically know that Company B has a lot more risk than the other two companies. Company C, on the other hand, is the least risky. So, which company would you prefer to invest in? Well, there isn't actually a clear right answer here. It in part depends on your preference for risk. As always, please let us know what you think. And, if you'd like more practice, check out our practice problems at the end of this video. ♪ (music) ♪
Principles_of_Economics_Macroeconomics	The_Limits_of_Fiscal_Policy.txt	♪ [music] ♪ - [Alex] The best case for fiscal policy is during a recession caused by an aggregate demand shock. But even with this best-case scenario, it's still difficult to effect change. An ideal stimulus is timely, targeted, and temporary. What do we mean? Well, an ideal stimulus would quickly hire unemployed workers, putting them to work on projects, which were completed as the economy recovers. This is ideal because an unemployed worker has a low opportunity cost -- so that's the best time to hire. If instead, the government hires a worker who would have had a job anyway, the cost to society is much greater. Let's look at each of these problems in more detail. First -- timing. New government expenditures can take years to move from dream to reality. First, there's the recognition lag. It takes time to identify a problem, such as a recession. Then, there's a legislative lag. Both houses of Congress and the President must approve any government expenditures -- think committee meetings, debates, drafts, complicated language, more debates, budget cycles. This lag alone could take months or even years. And once government expenditure has cleared Washington, we've only just begun! We haven't even implemented the project yet. This can involve further hurdles at the state and local level, such as selecting a firm and writing a contract to perform the work. It'd be nice if there were a lot of shovel-ready projects, but the reality is that every project requires planning, permitting, environmental review, and other delays. And then, there's an effectiveness lag. It takes time for government spending to ripple through the economy. Wages, for example -- they aren't paid upfront on day one, but only over time. And then it takes time for the wages to be spent, and so forth. By the time that government spending is working its way through the economy, the situation may well have changed. One way to minimize lag time is to focus on automatic stabilizers -- fiscal policy that occurs automatically, without legislation. For example, if the economy is doing poorly, income, capital gains, and corporate profits fall. Our progressive tax code could even mean lower tax rates during tough times. And that's good because lower taxes will result in more spending. Welfare and unemployment insurance also automatically kick in when individuals are hurting financially. So these payments, they're also timely and targeted -- targeted not only on the population that needs the funds the most, but on the population that is most likely to spend the money quickly, boosting the rest of the economy. Most economists, therefore, favor automatic stabilizers. Now, let's turn to targeting. Ideally, we would want to hire unemployed workers, but that isn't always possible. The very term "shovel-ready" suggests construction workers And in the last recession, lots of construction workers did lose their jobs, but so did retail workers. And the government simply doesn't have a lot of ways to hire waiters and store clerks -- at least not directly. Even among construction workers, there are big differences. A roofer, for example, who had been working home construction -- they might not have the right skills to easily switch over to road construction. As a result, when the government spends money on a new construction project, that may mean hiring workers away from other jobs rather than hiring unemployed workers. Now eventually, labor demand has still increased, but the less targeted the stimulus, the less timely and effective the stimulus. Finally -- magnitude. Spending money -- it's actually harder than you think. In 2015, US GDP was roughly $18 trillion. And federal spending? It was over $3 trillion. But there isn't that much discretion in the budget. Non-negotiables -- things like Social Security, Medicare, national defense, and interest on the debt -- they account for 65% of the budget. Authentic discretionary spending is less than 20%. And even that portion of the budget is not really all up for grabs. The 2009 stimulus, the US' largest stimulus since World War II, -- it was roughly $900 billion spread over three to four years. Even at its peak, the stimulus was only about 2% of annual GDP -- not bad, but not that large either. So even assuming that everything else goes right in theory and practice, it may be difficult to spend enough to fully offset an aggregate demand shock. That doesn't mean it isn't worth doing. Most studies of the 2009 stimulus find that it probably did increase GDP and reduce unemployment. In a way, this was an ideal case for fiscal policy precisely because targeting and timeliness are less important when the recession is very severe and lasts a long time. Let's summarize. An ideal stimulus is timely, targeted, and temporary. But none of this is easy. In a severe recession, stimulus may be extremely valuable. But as with monetary policy, it's a lot more difficult than just shifting lines on a graph. - [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Office_Hours_The_Solow_Model.txt	♪ (music) ♪ [Mary Clare] I've reviewed the data online. I talked to ton of college students. Everyone is missing this one question. It's time to make a video. ♪ (music) ♪ Today, we're gonna solve the following problem from our video on the Solow Model's steady state. Country A produces GDP according to the following equation: GDP equals five times the square root of K and has a capital stock of 10,000. If the country devotes 25% of its GDP to making investment goods, how much is this country investing? Additionally, if 1% of all capital depreciates every year, is the country's GDP increasing, decreasing, or remaining constant in that steady state? As always, it's best to watch the video first and try to solve this problem by yourself. If you have remaining questions, you can always return, and we'll work through the problem together. Ready? This question has two parts. First, finding how much this country is investing, and second, determining whether or not its GDP is growing. Fortunately, that first question is actually a necessary step for solving the second one. First things first. The relevant information from the problem is in that top right-hand corner of the board for reference. As always, it's best to identify steps for solving the problem. The first of the two questions is fairly straightforward. Simply derive the investment equation from the GDP equation and then solve for I, given the current capital stock of 10,000. To solve the second question, we'll need our answer from question one: the amount of capital we're accumulating through investment. We'll then find out how much capital we're losing to depreciation, and finally we'll compare the two, investment to depreciation to determine whether the country's capital stock, and therefore its GDP, is increasing, decreasing, or remaining constant in the steady state. Let's look a bit more in depth at this problem by graphing it. As you can see, GDP is measured on the y-axis. In previous Solow questions, you may have seen this labeled as total output or Y instead of GDP. And K, physical capital, is measured on the x-axis We know that this country's GDP is five times the square root of K, and we've actually already graphed it. This equation shows that GDP is a function of K. As K increases, GDP also increases, albeit by a smaller amount because of the law of diminishing returns. It's also worth noting that we're actually holding other variables that could affect GDP constant. Things like education, or population, and ideas. So increasing capital is the only way this country's GDP grows. In our example, this country has $10,000 dollars worth of capital. If we plug that into equation, GDP is 500. Now we know that GDP is five times the square root of K. And we also know that Investment is 25% of GDP, therefore, we can substitute five times the square root of K in for GDP. And that's it, for step one. To take a short cut, since we know GDP in this instance is 500, 25% of 500 is 125. This country is investing $125 dollars into capital accumulation. And that's the answer to step two. A few quick things to note here. Several variables are actually measured along the y-axis. Not just GDP, but we're also measuring investment, and eventually we're going to add depreciation. In general, it looks pretty cluttered if we were to add all of those labels up to the top. So we'll just leave it at GDP. And one other thing to note: if we're investing 125, and total GDP is 500, what's happened to that remaining GDP? It's being used for consumption, you know, buying stuff. One of the follow-up questions at the end of this video actually tests your understanding of this. So while this country is accumulating 125 worth of capital, we don't yet know if the country's capital stock overall is increasing, decreasing, or remaining constant, because we don't know how much of the capital stock is wearing down, or depreciating. In the real world, machines break, laptops die. Think of physical capital in your own life. How many times have you dropped your iPhone and had to get a new one? Or how often have you replaced an old phone, even though it still worked. So even though capital is being added to the stock of 10,000 through investment, some of this 10,000 is also being lost to depreciation, to those iPhones dropping. It helps to graph depreciation. We know from the initial problem that 1% of all capital stock is depreciating. Graphically, 1% times K can be represented roughly like this: If capital stock is 10,000, 1% of 10,000 is 100. So, 100 dollars worth of capital stock is wearing down, or depreciating, each year. We've now solved for step 3. We now have investment and depreciation, and can compare the two. If the country invests 125 worth of capital, and loses 100 to depreciation, then investment is greater than depreciation, and therefore, the capital stock will grow by 25 this year, as represented by the difference between these two curves. We can now answer that final question. The country's capital stock is increasing, and therefore, so too is GDP. And that's our answer. Because remember, according to the equation increases in K, increase GDP. As long as investment is greater than depreciation K and GDP will continue to increase until the country's capital investment equals depreciation. At this point, it reaches steady state because capital gain through investment is perfectly offset to capital lost from depreciation. And therefore, neither the capital stock nor GDP changes at this point. As always, please let us know what you think. And if you'd like to have some additional practice, we've included some extra questions on Solow and steady state at the end of this video. ♪ (music) ♪
Principles_of_Economics_Macroeconomics	Women_Working_Whats_the_Pill_Got_to_Do_With_It.txt	♪ [music] ♪ [Alex] When Katharine McCormick was born in 1875, hardly any women went to college, women couldn't vote, and birth control -- that was being made a crime. McCormick set out to change all of this. She graduated with a biology degree from MIT in 1904, only the second woman ever to graduate at MIT. She worked on the Suffrage Movement, she helped to pass the 19th Amendment, which in 1920 guaranteed women the right to vote. And throughout her life, she promoted female education. But her greatest contribution to female education came in a way that even she might not have expected. In the 1950s, a group of scientists were working on an oral form of birth control, the pill. But the research was slow and the political climate at the time was controversial, and their funding was pulled. McCormick had been a long time supporter of birth control . . . in her earlier years, going so far as to smuggle in diaphragms from Europe. Now, at 78, she stepped in to provide the scientists with much needed financial support. Doesn't seem like a controversial idea today, but at the time, using birth control or selling it -- that could land you in jail. So now you're probably wondering, "Okay -- what does this all have to do with economics?" Of course, economics has to do with everything. Perhaps you recall from an earlier video that during the 20th century, the labor force participation rates of women increased significantly, especially since the mid-1960s. Not only did more women start to work in the paid labor force, but we also saw an explosion in the number of women in professional fields, like medicine and law. Research by the economist Claudia Goldin with Lawrence Katz and also Martha Bailey, shows that the major factor explaining these dramatic increases was the invention and legalization of the pill. The pill was approved for sale in the United States in 1960. But incredibly, 24 states at that time still prohibited the sale of any contraceptive. And a number of other states restricted sales to married women only. In Connecticut, not only was the sale of birth control illegal, it was illegal to use it with violations punishable with a prison sentence. Nevertheless, growing demand for the pill pushed it onto center stage. There was a nationwide debate about women's rights and sexuality. Some people feared sexual anarchy if the pill became widely used. Others felt that it was a fundamental right of a woman to control when she would have a child. In 1965, the Supreme Court stepped into this debate. They ruled that what a married couple did in the privacy of their own bedroom -- that was their business, not the government's. As the pill became more widely available with these rulings, the number of women entering professional degree programs exploded. This graph from our textbook with Tyler, Modern Principles, shows how, from 1955 to about 1970, fewer than 10% of the students entering these programs were women. But by 1980, those rates had doubled. And then they doubled again. So that by 1995, lots of professional programs had 40 to 50% women entrants. Now, clearly, other things were also changing during this time. So how do we know that the pill was a driving force? One strong piece of evidence is that the states that legalized the pill earlier -- they also had earlier increases in female professional education and labor force participation rates. So what exactly was it about the pill that made it easier for women to participate in the paid labor force? Overall, it wasn't that the pill reduced the number of children. Much more important was that the pill gave women greater control over when children were born. It's another story of incentives. Economist Martha Bailey summed it up by providing a low-cost means of delaying childbearing. Oral contraception allowed women to remain in school, pursue longer-term careers, and work more in the paid labor force during ages historically associated with childbearing. If you look around MIT today, you can find McCormick Hall, an all-female residence that was one of Katharine McCormick's last gifts. But if you really want to see her influence, take a look at all the female students studying engineering, medicine, law, and of course, economics. [Narrator] If you want to test yourself, click "Practice Questions." Or, if you're ready to move on, you can click "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Basic_Facts_of_Wealth.txt	♪ [music] ♪ [Alex] We all know that there are rich countries and poor countries. The United States? It's one of the richest countries in the world with one of the highest standards of living. The Central African Republic is one of the poorest countries in the world. Mexico? It's somewhere in between. But just how big are these differences between the rich and the poor countries? And how do we measure these differences? We're going to measure the differences in living standards by looking at Real GDP per capita. That's a country's Gross Domestic Product divided by its population. Real GDP per capita captures the average individual's command over goods and services -- their purchasing power. Or, put another way, how much stuff, which we'll picture here using a basket of groceries, can an average person buy in a year? So, let's start with the Central African Republic. This is a small, landlocked nation in Africa. It's currently suffering under a civil war. It's probably the poorest country in the world. In the CAR, an average person can buy just six baskets of stuff in a year. Now let's consider Mexico, a country you might be a little bit more familiar with. If the average person in the CAR -- if they can buy six baskets of goods in a year, how many baskets do you think that the average person in Mexico can buy? Take a moment, take a guess, make a mental note of it. We'll come back to that. Now let's look at the largest of the developed nations, the United States. How many baskets of goods do you guess that the average American can buy in a year? Okay, have you got your guesses? Here are the answers. In our depiction, each basket is worth $100 of buying power per year. Using data from the International Monetary Fund, Real GDP per capita -- in the Central African Republic -- it's about $600 per year. Just six baskets. Real GDP per capita in Mexico, in contrast, is $17,800 per year. Or 178 baskets. Both of these numbers, by the way, have been converted to dollars by taking into account differences in prices in these countries. These are so-called purchasing power parity conversions -- the most accurate way we know to compare living standards across different countries. Now let's look at Mexico and the CAR again. The average person in Mexico -- they can buy 29 times as much stuff in a year as the average person in the Central African Republic. What about the average American? Well, this is how much the average American can buy -- 545 baskets. That's three times more than the average person in Mexico, and 90 times more than the average person in the Central African Republic. So, when we're talking about differences in wealth between countries -- these are not small differences -- but regularly, on the order of 10, 20, 50, sometimes 100 times more in one country than in another. And countries that we might sometimes lump together in our mind as being poor, like Mexico and the Central African Republic -- they're not nearly in the same league. The prosperity in Mexico -- it's much closer to the United States than it is to the truly destitute nations, such as the Central African Republic. These huge disparities in wealth, have they always existed? Are countries converging? Are they diverging? Is it getting better or worse? Are some countries catching up? These are all topics of some of our upcoming videos, so get ready to dig in. [Narrator] If you want to test yourself, click "Practice Questions." Or, if you're ready to move on, you can click "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	The_Economics_of_Ideas.txt	♪ [music] ♪ - [Alex] In our previous videos, we've covered how capital accumulation can spur catch-up growth, but capital accumulation becomes less potent as countries grow wealthier. Countries on the cutting edge grow by developing more and better ideas, but how? How do we get more and better ideas? Individually, a good idea -- it might seem sort of random. Maybe it pops into your head while you're in the shower or just before you go to sleep at night. But when we step back and look at the creation of new ideas at a macro level, it's definitely not random. There are key ingredients that spur more ideas. Ideas don't fall from the sky like manna from heaven. They grow in the soil of good institutions. Let me give you a story to help illustrate this point. You might never have heard of the flying shuttle, but it was one of the most important inventions in the industrial revolution. The flying shuttle improved looms, making it easier to make fabric quickly and cheaply, and that made it possible for people around the world to have new clean clothes. For the very first time, fashion became something that wasn't just for the very, very rich. The flying shuttle was invented by John Kay. And what did Kay get for his efforts? Weavers who thought that Kay's invention would put them out of work -- they smashed the new looms, and they burned Kay's house to the ground. Despite creating one of the most important inventions to launch the Industrial Revolution and improve the world, Kay, in fear for his life, fled to France, where he ultimately died a poor man. I don't know about you, but if I saw what happened to John Kay, I might not be too eager to pursue my invention. Let's contrast Kay’s story with a great innovator from recent times, Steve Jobs. For his innovations, not only did he earn lots of money, but also cultural awards. Jobs became an icon that people want to emulate. This goes back to institutions and incentives. The institutions today in the United States have enabled an amazing environment for entrepreneurs to thrive and create new ideas. If you have a great idea in the United States, in America, American institutions create good incentives to pursue that idea. You'll find incubators and venture capitalists who can help you start your business, laws to protect your idea, a culture that idolizes innovators, and markets who will reward you handsomely should your idea be attractive to consumers. John Kay could only dream of the sort of world where he could profit from his work. In the United States and in most of the world today, ideas are produced for profit. Seventy percent of the research and development expenditures in the United States are funded by the private sector, and an even higher percentage are funded privately in places like Japan. So while an individual idea might seem sort of just like good luck, we see that ideas spring from places that have the right institutions in place to create new ideas and pursue those ideas. In the next video, we're gonna look at one particular institution which is important for the production of ideas, patents. We'll also discuss the trade-offs of protection versus the sharing of ideas. And, what role can governments play in the production of new ideas? - [Narrator] If you want to test yourself click "Practice Questions." Or, if you're ready to move on, you can click "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources.
Principles_of_Economics_Macroeconomics	The_ShortRun_Aggregate_Supply_Curve.txt	♪ [music] ♪ [Alex] In our previous video, we showed how real shocks can increase or decrease the growth rate. In this video, we're going to analyze how aggregate demand shocks -- rapid shifts in the AD curve -- how they can also lead to business fluctuations. Now, in the model so far, a shock to the AD curve, it can change the inflation rate but not the growth rate. That's a good prediction for the long run. In the long run, changes in spending -- they don't change the fundamental factors of growth, and so they won't change the long-run growth rate. But it's not a good prediction for the short run. Let's recall the dynamic version of the quantity theory of money. Growth in the money supply plus growth in velocity equals inflation plus real growth. Or, more simply, spending growth equals inflation plus real growth. Economists believe that faster spending -- it doesn't flow immediately into an increase in inflation. And if inflation is slow to change, then according to our equation real growth must change. When spending increases, prices -- they don't move instantly. Prices, and especially wages, are sticky. And it takes time for them to react to a change in spending. Let's give the intuition by returning to our inflation parable. In this parable, the government increases the supply of money, perhaps, as in Zimbabwe, by using newly printed money to pay for soldiers. The increase in the supply of money increases spending, an increase in aggregate demand. As in our parable, the baker, tailor, and the cabinet maker -- they're at first delighted to discover that the demand for their product has increased. To satisfy her new customers, the baker, for example -- she'll work extra hours, and perhaps she'll raise wages and hire more workers so that she can bake more bread. The tailor and the cabinet maker -- they'll respond in a similar way. So real output increases. But we do know that an increase in the supply of money -- it doesn't increase the real factors of production. So as the baker and her workers spend the extra money, prices will start to rise. And the process will build on itself, because the banker finds that she must raise the price of bread to match the increase in prices elsewhere in the economy. And the same is true for the tailor, and the cabinet maker. At first, the increase in spending increased nominal and real wages. But as prices rise, the real wage starts to fall. The workers find that their real wage -- it's not as high as they thought it was. And so they'll no longer be willing to work so much overtime. Soon, the baker will return to baking the same quantity of bread that she did before. And the same will be true for the tailor and the cabinet maker. So the increase in spending -- it increased output and growth in the short run, but not in the long run. Okay. How do we model this? To capture some of these ideas, we're going to introduce into our diagram the short-run aggregate supply curve. Yeah, there are two supply curves. Let's begin with an example. Notice that in the initial equilibrium the inflation rate is 2%, and suppliers expect the inflation rate to be 2%, which we're going to note on the short-run aggregate supply curve by having "E" inflation, or E(𝜋) -- short for the expected inflation rate that's equal to 2%. Now let's see how an increase in aggregate demand -- brought about by a faster growth rate in the money supply -- how it works its way through the economy. When the money supply starts to grow faster, the aggregate demand curve shifts out, and the economy expands along the short-run aggregate supply curve to point B. Notice that in the short run, the increase in aggregate demand increases the inflation rate and also the real growth rate as the bakers are starting to bake more bread. Pretty soon, however, the baker and her workers realize that although they were expecting an inflation rate of 2%, the actual inflation rate is 4%. When workers see that prices are rising at a faster rate than they expected, they're going to demand higher wages. And, for the same reason, the miller who produces the flour for the bread -- he's going to raise his price. And now the baker will look around and think, "Since the flour that I need to bake my bread -- since it's gone up in price, I need to raise the price of my bread, just to stay even!" As expectations adjust, the short-run aggregate supply curve will shift up, and to the left. The inflation rate increases, and the growth rate declines. In the long run, we'll end up at point C, with a higher inflation rate but the same long-run growth rate. Remember, a change in aggregate demand doesn't change the fundamental growth factors. So, in the long run, we must always end up on the long-run aggregate supply curve. Now let's take a look at what happens when we have a negative shock to aggregate demand, a shift in the AD curve inwards. The economy begins at point A. If aggregate demand declines unexpectedly -- say because the money supply grows less quickly -- the new short-run equilibrium will be at point B, where the inflation rate is lower, and we have a much lower growth rate, perhaps even a negative growth rate, as shown here. What's going on? When spending unexpectedly declines, businesses find that they're selling less. Businesses, therefore -- they'll cut back on their spending, and they'll hire fewer workers. Some businesses may even go out of business. Now, eventually, as the workers see that the inflation rate has declined, they'll be willing to accept lower wages or lower wage increases. And, eventually, we'll end up at a new long-run equilibrium at point C. But it takes time to get to point C. And in the meantime, the economy -- it's growing at less than its potential, and the unemployment rate -- it's too high. As John Maynard Keynes said, "In the long run, we're all dead!" So if we end up at point B, is there something that we can do to get the economy going again more quickly? Do we really have to wait for the long-run equilibrium at point C? That's the question that fiscal and monetary policy address. We'll be getting to that soon. But first, we need to spend a little bit more time talking about shifts in the aggregate demand curve. So far, we've focused on shifts in the money growth rate. In the next video, we'll say a bit more about shifts in the other component of aggregate demand: velocity, or "V." As we'll see, this is where animal spirits will make an appearance. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Cyclical_Unemployment.txt	♪ [music] ♪ [Alex] Today we're going to look at cyclical unemployment -- unemployment correlated with the ups and downs of the business cycle. Using our friend, the FRED database, it's easy to see that unemployment increases during a recession when the economy is shrinking or growing only very slowly. Indeed, low growth and high unemployment -- that's part of what defines a recession. Lower growth is usually accompanied by high unemployment for two reasons. First, and most obviously, when GDP is falling or growing more slowly than expected, firms often lay off workers, which generates unemployment. The second reason is slightly more subtle. Higher unemployment means that fewer workers are producing goods and services, and when workers are sitting idle, it's likely that capital is also sitting idle. And an economy with idle labor and capital, well, it can't be maximizing growth. Although unemployment is clearly correlated with the business cycle, the exact reasons why are debated by economists. To see some of the issues, notice, for example, that unemployment typically spikes quickly when growth declines. But then it returns to more normal levels only slowly. The unemployment rate spiked in 2008, for example, as the economy declined. By 2010, the economy was actually growing at a slow but steady rate of around 2% per year. But unemployment didn't return to pre-recession levels for another five years. Why did it take so long for the unemployment rate to return to more normal levels? Think about a typical market, say the market for apples. Unemployed apples in this case would be apples that aren't being bought. Now in a situation with high apple unemployment, you'd have a higher quantity supplied than the quantity demanded at the current price. So what would you expect to happen in this situation? Well ordinarily, the price of apples would drop until the quantity supplied of apples equaled the quantity demanded and the market cleared. However, people are more complicated than apples. And labor markets -- they don't seem to behave in quite this way. Even when there are lots of unemployed workers, that is a higher quantity supplied of workers than the quantity demanded, wages seem to fall more slowly than you would expect. Economists say that wages are “sticky.” Sticky wages reduce the incentives to hire more workers and they slow the adjustment process. Now sticky wages are puzzling and economists have a number of theories for why wages might be sticky. Probably the most important reason is that human beings get very upset when their wages fall, especially if a fall in wages is obvious and appears to be caused by a person, easily identifiable, like an employer. Imagine that your employer cut your wages. You’d probably be pretty upset. You might even retaliate by working less hard or even by disrupting your work place. Because of the fear of reducing morale, employers are very reluctant to reduce nominal wages. This graph, for example, shows the distribution of non-zero wage changes. Small increases in wages are common, but small decreases in wages are very rare. Now even in a growing economy, we'd expect to see wages to fluctuate, like other prices, with lots of small wage decreases as well as wage increases. Supply and demand are constantly changing. But that's not what we see. Wages go up much more often than they go down. If nominal wages are sticky in the downward direction, it's going to take a long time to adjust to a shock that requires wages to fall, especially if the inflation rate is low -- a point which we will return to in a later video. Unemployed workers may also take time to learn or to accept that their wages have fallen. And workers may also be afraid to accept a low-quality job for fear of being branded a low-quality worker. If you're a computer programmer, you might not want to take a job at Starbucks, even if you could get one -- or at least you might not want to put it on your resume. So workers may want to search for a long time before they take a new job. Minimum wages and union contracts can also slow the adjustment of wages, as they put legal or contractual limits on how low wages can go. All of these mechanisms can lengthen the amount of time that it takes for unemployed workers to be rehired. Okay -- one final concept -- the natural rate of unemployment. The natural rate is defined as the rate of unemployment that would occur if there were no cyclical unemployment. In other words, it's the rate of frictional plus structural unemployment. Now why do we care about the natural rate? We care because economists think that under some conditions the government can reduce cyclical unemployment through fiscal and monetary policies -- things like spending more money, cutting taxes, or increasing the money supply. These policies, however, are unlikely to change frictional or structural unemployment. So when the unemployment rate is close to the natural rate, that suggests that the scope for monetary and fiscal policy is diminished. Now unfortunately, we can only estimate the natural rate of unemployment. It's not something that we observe. This figure shows one estimate of the natural rate alongside the actual unemployment rate. Notice that by 2015 the actual unemployment rate was close to the natural rate. So by this estimate, the time for fiscal and monetary policy had passed. Other estimates of the natural rate might suggest more room for policy. Clearly, theories of cyclical unemployment are closely tied to theories of the business cycle. Why does an economy have booms and busts? And to theories about how the government might use fiscal and monetary policy to smooth the business cycle. So we will be revisiting all of these issues in future videos. [Narrator] If you want to test yourself, click "Practice Questions." Or, if you're ready to move on, you can click "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Game_of_Theories_The_Austrians.txt	♪ [music] ♪ - [Tyler] The Austrian School of Economics has come up with its own approach to business cycles, and the most important proponents here are Ludwig Mises and Nobel Laureate Friedrich Hayek. Now, the Austrian School of Economics, more generally, it emphasizes market price signals and how those price signals communicate decentralized information to entrepreneurs. The Austrian theory of the business cycle postulates how central banks might distort those price signals, and give rise to a cycle of boom and then bust. So the basic scenario is this -- imagine a central bank, and that central bank sets out and increases the rate of inflation. For the Austrians, this is very often a bad idea. There's new credit put into the system, and that lowers market rates of interest. But the Austrians stress the point that this lower rate of interest and the extra credit -- they're not market phenomena. It's due to the results in the plans of the central bank. So imagine, at an interest rate of 5%, an entrepreneur might think, "There's a whole bunch of investment projects, and they're not worthwhile if I have to borrow and pay 5%." But if that interest rate falls 3%, 2%, 1%... all of a sudden, a lot of those investments will look more profitable. So more homes will be built; more factories will be built. But the thing is, they're not actually more profitable. They just seem more profitable at first because, according to the Austrians, the market price signal has been distorted. That's the boom part of the business cycle. So imagine a comparison. Let's say the central bank had not done anything, but consumers had saved more. Well, that would lower interest rates. Interest rates would be lower, but there would also be more consumer savings. The difference when the central bank lowers interest rates is you have the lower rate but not the increase in consumer savings. So the savings of the economy are actually not geared to support this extension of long-term investment goods. Over time, those investments will be what the Austrians call "self-reversing." It will be revealed eventually -- the demand for homes -- it's not that high. The demand for what that factory was producing -- it's not that high. Maybe consumers instead want to buy ice cream and bananas, other shorter-term goods. As those long-term investments turn out to be unprofitable, they are liquidated, workers are laid off, and that is the best part of the boom-bust business cycle. What are potential examples? Well, many Austrian economists have argued that very early in the 21st century, the Federal Reserve was too easy with credit. This encouraged too many mortgages and too much investment in homes, and that may have been a factor behind the real estate bubble of the 2008 crisis. So you look, for instance, at the economic problems in the eurozone. After the euro was introduced, many investors thought that lending money to Greece was, in effect, as riskless as lending money to Germany. There was an implied governmental guarantee from the European Union itself -- at least that's how it was perceived. So too many investors lent too much money to Greece. That later turned out to be a malinvestment. Again, this is not exactly the classic Austrian theory, but it's still a case where government intervention sent some of the wrong price signals. So what's the Austrian solution? Well, typically, Austrians favor a relatively small role for government because they see markets as working relatively well and governments as distorting market price signals. A lot of Austrians have also argued for relatively tight money, and they don't want the central bank to be trying to stimulate the economy with more credit or lower interest rates. Okay, so how might we graph the Austrian theory in terms of an aggregate demand-- aggregate supply diagram? This is a little complicated, but here's one way that you could capture at least some of the Austrian element. When the boom comes, think of the aggregate demand curve as shifting out and to the right. That's the economic stimulus. At first, output goes up, but those new investments -- precisely because they're not well matched to what consumers really want -- in the longer term the economy is poorer; the economy is less productive. So, over time, think of the long-term aggregate supply curve as shifting back and toward the left. When you put those two developments together, what you'll see is that in the longer run, output is lower, as you could indicate by this point here, C' Once the economy adjusts, you'll have had a wasteful boom and a costly process of correction. And that move back to C' because of the mismatch of what is produced and what consumers want? Well, that's the bust. Okay, so what are some possible problems with the Austrian theory? First, the Austrians don't quite explain why so many smart market entrepreneurs are so tricked by the central bank and the increase in the money supply. Interest rates are lower. Well, so what! A lot of entrepreneurs know that central banks manipulate interest rates all the time. The entrepreneurs might just think, "Hmm, I should wait, or I should just make up my own mind. Let's not be fooled this time around." The second problem in the Austrian theory -- why is the downturn, why is the bust so painful? Let's say the economy built more investment goods, and then it doesn't finish all those projects. It switches back to consumption goods. Why does there have to be so much unemployment? It seems here that the Austrian theory may have to rely on some Keynesian or monitorist mechanisms of sticky wages, sticky prices, falling aggregate demand, or other ideas. Finally, many versions of the Austrian story, they imply that consumption and investment -- they tend to move in opposite directions. So, think back to the Austrian boom. When the boom starts, there's a greater production of investment goods and less money being spent on producing consumer goods -- that's the Austrian model. But when we look at the actual data, we find more co-movement. That is, the production of investment goods and consumer goods tends to move together. And that's an outcome not exactly matching the predictions of Austrian theory. So, to sum up, I would say this -- the Austrian account is not a mainstream account, and probably most economists wouldn't agree with it. There are still many economists who believe in the Austrian theory, and it may, in fact, explain some features of business cycles, but it still remains to be seen whether it can be a more fundamental explanation. - [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	The_Aggregate_Demand_Curve.txt	♪ [music] ♪ [Alex] The aggregate demand- aggregate supply model is a good starting point for understanding business fluctuations. Let's begin by learning about the aggregate demand, or AD curve. The aggregate demand curve shows us all the combinations of inflation and real growth that are consistent with a specified rate of spending growth. The easiest way to explain this is to remember from our discussions of the quantity theory of money that we can write the quantity theory in dynamic form, like this: "M" is the growth rate of the money supply. "V" is growth and velocity, or how quickly a dollar is changing hands. "P" is the growth rate of prices, and we have another name for the growth rate of prices -- that's the inflation rate, which we'll also write as 𝜋. And "YR" is the growth rate of real GDP. So let's just rewrite our equation very slightly as M + V is equal to inflation plus real growth. So the left-hand side is spending growth, while the right-hand side is inflation plus real growth. Let's give an example of how this equation works. Suppose the money supply is growing at a rate of 5% per year - M is 5%. And let's suppose that V is constant at 0%, and real growth is 0%. Then we have that 5% plus 0% is equal to inflation plus 0%. So it follows that the inflation rate is 5%. Thus, one combination of inflation and real growth that's consistent with a spending growth rate of 5% is 5% inflation and 0% real growth. But there are lots of other combinations of inflation and real growth that are also consistent with a 5% rate of spending growth. For example, 3% real growth and 2% inflation. Now let's do what economists always do, we'll do a graph. We're going to put inflation on the vertical axis, and real growth on the horizontal axis. And let's suppose that spending growth is 5%. An aggregate demand curve shows us all the combinations of inflation and real growth, consistent with a specified rate of spending growth. We just presented two points that are consistent with a spending growth rate of 5%, namely 5% inflation and 0% real growth, and also 2% inflation and 3% real growth. Connecting these two points we have an aggregate demand curve, a curve that shows us all the possible combinations of inflation and real growth that are consistent with a spending growth rate of 5%. We can also interpret this AD curve in one other way. We can think about M plus V as the growth rate of spending in the economy. Or, equivalently, it's the growth rate of nominal GDP. So the AD curve gives us all the combinations of inflation and real growth that are consistent with a specified growth rate of nominal GDP. The AD curve for a nominal GDP growth rate of 5% -- that's all the combinations of inflation and real growth that add up to 5%. So what's the AD curve for a nominal GDP growth rate of 7%? Right! It's all the combinations of inflation and real growth that add up to 7%. Put that on our graph. So now we can see that an increase in the growth rate of nominal GDP -- in this case an increase in the growth rate of nominal GDP from 5% to 7% -- that shifts the AD curve outwards. Similarly, a decrease in the growth rate of nominal GDP -- that shifts the AD curve inwards. Now an increase in the growth rate of nominal GDP -- that can come from either changes in M, or changes in V. We're going to discuss how monetary and fiscal policy, respectively, can change M and V, in later videos. For now, let's just focus on the key idea: increased spending growth shifts the AD curve outwards, and decreased spending growth shifts the AD curve inwards. In the next video, we're going to combine what we know now about the AD curve with the long-run aggregate supply curve. That will give us our first model, a model of real business cycles. - [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Why_Governments_Create_Inflation.txt	♪ [music] ♪ [Alex] If inflation is so costly, why do some governments create inflation? In our opening video on hyperinflation in Zimbabwe, we gave one explanation. When the government prints money and uses it to buy goods, that's like a tax -- a transfer of wealth from the people to the government. Now inflation is not an especially effective tax. So governments typically use inflation as a tax only when they're desperate. They can't raise funds in any other way. There are other reasons, however, why printing money can benefit governments. And in some cases, printing money can even benefit an economy. We'll be examining these in much more detail in future videos when we discuss how the government can use fiscal and monetary policy to combat a recession. In this video, we're just going to give a taste of the basic idea. Recall the equation of exchange, MV is equal to PY. Earlier, we used this equation to explain inflation. And what we said is that since V and Y are relatively stable, the only explanation for large and sustained increases in prices is an increase in the money supply, M. We also showed empirically that in the long run, when M doubles, then P doubles, just as the theory predicts. In other words, in the long run, money is neutral. But what about the short run? In the short run, an increase in M, especially an unexpected increase in M, that can increase real output. To understand why, let's turn to the parable of inflation. Consider a small economy consisting of a baker, a tailor, and a carpenter, who buy and sell products among themselves. Now think about what happens when a government like that in Zimbabwe starts paying its soldiers with newly printed money. At first, the baker is delighted when the soldiers walk through his door with cash for bread. To satisfy his new customers, the baker works extra hours, hires more assistants, bakes more bread, and is able to raise prices. "How wonderful," the baker thinks. With the increase in the demand for bread, I'll be able to buy more clothes and more cabinets. Meanwhile, the tailor and the carpenter are thinking much the same thing, as the soldiers are also buying goods from them. When the baker arrives at the tailor to buy shirts, however, he finds that he's been fooled. The soldiers have bought shirts for themselves and the price of shirts has now gone up. In the same way, the tailor and the carpenter -- they discovered that the prices of the goods that they want to buy -- they've also increased. Although they earned more dollars, their real wages -- the amount of goods that the baker, the tailor, and the carpenter -- the amount of goods that they can buy with their dollars -- that has decreased. When the government next wants to buy goods, it faces higher prices and it has to print even more money to buy just as many goods as before. Moreover, as the new money enters the economy, the baker, for example, will now race to the tailor and to the carpenter to try and spend the money before prices go up. V increases. Unfortunately, the tailor and the carpenter -- they're likely to have had the same idea. And the result is that prices increase even more quickly than the time before. Eventually, as the government continues to print money and buy goods, the baker, the tailor, and the carpenter, they'll catch on. They'll come to expect and prepare for inflation. Instead of working extra hours, the baker, tailor, and carpenter -- they'll realize that by the time they get to spend their money, the goods that they want to buy will have already increased in price. And knowing this, the baker, the tailor, and the carpenter -- they'll no longer be so happy to see the soldiers entering their shop, waving fistfuls of dollars. And they'll no longer work extra hours baking more bread, selling more clothes, or building more cabinets. This is the parable of inflation. We learn two things of importance from the parable. First, an increase in the money supply can boost the economy in the short run. And by the way, that can be a good thing especially if there's a recession. But this power might also be abused by governments to help swing, say, an election. Second, we also learn from the parable that when the government repeatedly tries to boost the economy by injections of money, the people come to expect the increases in prices and they come to prepare. So, let's think about this using our equation of exchange: MV is equal to PY. In the short run, an increase in M can cause an increase in Y. But then P catches up. So, in the long run, the increase is in P only. But now notice the following: if the government wants to reduce inflation, the entire process goes into reverse. So a decrease in the money supply -- that can cause a recession. If M decreases, for example, then in the short run, Y falls until P catches up. In the long run, a decrease in M decreases P. But the long run may come only after a short-run recession. So one of the biggest costs of inflation is that reducing inflation is also costly. A bit of inflation -- it seems like a good idea to boost the economy, but if you keep trying the same trick over and over again, it stops working. And then you're left with all cost and no benefit. A reduction in inflation at that point -- it slows the economy and it increases unemployment. So inflation has been likened to a drug. The drug stimulates at first, but then you need more and more to get the same stimulus until you need the drug just to be normal. And finally, when you stop using the drug, you get severe withdrawal pains. This is what happened in the United States in the early 1980s. Inflation was increasing in the 1970s, but by the time we got to the late 1970s, it wasn't helping any longer to reduce unemployment. So, we got so-called stagflation: inflation and unemployment together. Then in the early 1980s under Ronald Reagan, inflation fell, but at the price of a very serious recession in 1981 and 1982. So another reason to avoid too much inflation is that reducing inflation can be very costly indeed. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	The_Solow_Model_and_Ideas.txt	[Alex] We've covered a lot of the Super Simple Solow Model. We've looked at the dynamics of capital accumulation, how changes in savings rates influence growth, and we've looked look at some of the predictions of the Solow Model. One thing we've learned is that the model seems to inevitably predict that we end up in a steady state with no growth. Now, however, we're going to turn to the last of our variables: Ideas. Can ideas keep us growing? Better ideas mean that we get more bang for our buck, more output from the same inputs of capital and labor. Alternatively, we can think about this as increasing our productivity. Henry Ford, for example, took ideas from lots of other industries, like meatpacking, bicycle making, and brewing, and he combined them in a way that had never before been used in the manufacturing of automobiles. This novel combination of ideas sparked a dramatic increase in productivity that transformed the world. The same types of processes - they're continuing today, and in all industries, increasing output per worker across the economies. So let's go back to our previous graph of capital and output. We can now add ideas as a multiplier. Better ideas multiply the output from the same capital stock. So, if A increases from 1 to 2, that's a doubling of our productivity. And that shifts the output curve up. When output doubles, so does investment. Now, once again, investment is greater than depreciation. So we begin accumulating capital once again. And that further boosts our output. So better ideas spur more output, which creates more investment, which leads to capital accumulation. So better ideas lead to growth in two ways: The increased productivity of a given capital stock, and the increased investment, which increases capital accumulation. Now imagine that ideas are constantly improving. You'd have continual shifts upward of the output curve. And that means continual shifts upward of the investment curve. We'd always stay to the left of the steady state, and there, we'd continually grow. So growth at the cutting edge - it's determined by how fast new ideas are formed, and how much those new ideas increase our productivity. So that's our Super Simple Solow Model. It combines a model of catching up growth due to capital accumulation, with a model of cutting edge growth due to idea accumulation. If you want to dive further into the Solow Model, check out our textbook, "Modern Principles." We also have more material in our Development Economics course. In that course, we'll add population growth to the model. and dive deeper into the data to see how well the model predicts. We'll find some things it predicts really well, and other things not so much. Finally, since ideas drive growth on the cutting edge, we'd like to know what factors help to spur the creation of new ideas. This topic is a personal favorite of mine, and it's up next. - [Announcer] If you want to test yourself, click "Practice Questions." Or, if you're ready to move on, you can click, "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources.
Principles_of_Economics_Macroeconomics	Intro_to_the_Bond_Market.txt	♪ [music] ♪ [Alex] As we've seen, most individuals who want a loan -- they borrow money from a bank. But for a well-known corporation, like Starbucks, borrowing money may be available through another type of financial intermediary: the bond market. A bond is essentially an IOU. It documents who owes how much and when payment must be made. Like stocks, bonds are traded on markets. For an established company, like Starbucks, investors -- they already know enough about the company that they're willing to bypass the bank as an intermediary and lend to the company directly. So for a large company with a good reputation, this could mean they can borrow money on better terms from the bond market than they can through traditional bank lending. Starbucks, for example, has issued over a billion dollars of corporate bonds over the years, in order to fund their expansion plans. Now unlike a stock, if you buy a newly issued bond from Starbucks, you don't own part of Starbucks. You're simply lending Starbucks money, and in exchange, they're promising to pay you back a specific sum at a particular point in time. In addition, some bonds also pay out regular installments, called coupon payments, according to a preordained schedule. By issuing bonds, a company can raise capital and make big investments. And then they can repay that debt over a long timeline as those investments provide a return. Corporations aren't the only institutions that borrow money in the bond market. Governments do so as well. In 2016, the U.S. government owed the public almost $14 trillion in promised bond payments. And because the government is so big, when it borrows money, it affects the entire market for saving and borrowing. Let's go back to the supply and demand for loanable funds. We'll use some numbers here for illustration. Here's the demand curve showing the demand for borrowing. Now, imagine that the government decides to borrow $100 billion. This shifts the demand for loanable funds up and to the right, increasing the equilibrium interest rate from 7% to 9%. A higher interest rate -- that means that the quantity of savings supplied will increase, in this case, from $200 to $250 billion. Now remember that if savings increases by $50 billion, that means that private consumption is falling by $50 billion. If we're saving more, that means we're consuming less. And because borrowing has become more expensive due to the higher interest rate, private investment will also fall. At a 9% interest rate, we can see that the private demand for loanable funds is $150 billion, $50 billion less than it was at an interest rate of 7%. We call these two effects “crowding out”. When the government borrows $100 billion, it crowds out private consumption and private investment. In this case, it crowds out $50 billion of private consumption and also $50 billion of private investment. Bonds aren't as risky as stocks because the bondholders must be paid before any profits are distributed to shareholders. But bonds do have risk, namely the risk that when the payments come due, the borrower won't be able to pay. That's called the default risk. If investors think that a firm issuing a bond has a significant default risk, they'll demand a higher interest rate to lend money. Bonds are rated by agencies, such as the S&P. The S&P ratings go from AAA, which are the safest bonds, all the way down to D, and anything lower than a BBB-, those are sometimes called “junk bonds.” If you're curious, Starbucks gets an A-. Lending money to Starbucks -- it's pretty safe. But you never know what might happen if all those pod people start making a lot more coffee at home. Now, the rating agencies aren't perfect. That became all too obvious during the recent financial crisis. However, generally speaking, you'll find that better-rated bonds -- they pay lower interest rates. And lower-rated, riskier bonds -- they pay higher interest rates. The state of Illinois has the lowest bond rating of any state government in the United States, an A-. And it has to pay significantly more to borrow money than does Virginia, which has the highest rating, a AAA. Another factor that determines the interest rate on a bond is whether the borrower can put up collateral, an asset that helps to guarantee the loan. If you want to borrow money to buy a house, you'll typically get a lower interest rate than if you want to borrow money to buy a vacation. How come? It's the same principle. The mortgage loan is less risky for the bank than the vacation loan because if you default, the bank can repossess your house. The house is collateral. But once you've been to Maui, the bank can't repossess your vacation. So it's cheaper to borrow money to buy a house than to go on vacation. Okay, we've covered banks, we've covered stocks, we've covered bonds… But actually, there's many other financial intermediaries that we could talk about, including hedge funds, venture capital, mortgages, and a lot more. What are you curious about? Let us know. [Narrator] If you want to test yourself, click "Practice Questions." Or if you're ready to move on, you can click "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Intro_to_the_Solow_Model_of_Economic_Growth.txt	♪ [music] ♪ - [Alex] Here's a fact about economic growth that might seem counterintuitive. During World War II, Germany and Japan suffered heavy losses. Millions of people were killed. Entire cities were flattened. Roads, bridges, factories, and other resources critical to an economy were destroyed. Yet, following World War II, Germany and Japan both grew quickly. In fact, they grew much faster than did the United States. Many people wondered what was going on. Why were the losers of the war growing faster than the winners? Here's another puzzle. In the past several decades, China has been growing at astonishing rates of growth -- 7 to 10% per year. Remember, at those rates, the standard of living -- it's doubling every 7 to 10 years. In contrast, in the advanced economies, like the United States, Canada, or France, they're growing around 2% per year, doubling only once every 35 years. So here's the puzzle. In the previous talks, we said that the way to get a high standard of living and economic growth is to have good institutions, like property rights, honest government, political stability, a dependable legal system, and competitive and open markets. But in each one of these cases, there's no question that the advanced economies have better institutions than does China. Plus, the advanced economies -- they've got more human and physical capital. So if the advanced economies have got better institutions and more capital, why are they growing slower than China? To solve these puzzles, we're going to be drawing on an important economic model: the Solow Model of Economic Growth, named for Robert Solow, who won the Nobel Prize. The Solow Model will help us to better understand the dynamics of growth. The Solow Model is also going to help us to draw a distinction between two types of growth: catching up growth and cutting edge growth. As we'll see, catching up can be much faster than growing on the cutting edge. Now, you might ask, "What's an economic model?" An economic model is a simplified framework that helps us to understand a more complex reality. We're going to be using a super simple version of the Solow Model that boils economic growth down to just a few key variables and some basic mathematics. Now, although it's simple, the Solow Model can provide us with some deep insights into the causes of growth. A key part of the model is a production function -- a simplified description of how resources, inputs, are used to produce output. So let's take a look at some of the inputs into our production function. The first key input is us, people. We use the letter "L" to represent labor. The more educated people are, the more effective their labor. So we can multiply L by "e" for education. Together, these two variables represent human capital. Next up is physical capital, represented by the letter "K." K is all of our factories, and tools, and so forth. Last, but certainly not least, is ideas, represented by the letter "A." A represents all of our knowledge about how to combine capital and labor to produce valuable output. Everything from how to transport stuff without carrying it on your back, to how to keep diseases from spreading, to how to add up 1,000 numbers in a fraction of a second. A is ideas, and better ideas mean that we can get more bang for our buck, more output from the same inputs of capital and labor. We can think of human capital, physical capital, and ideas being used together to produce output. That's the idea of our production function. Now, right now our production function is very abstract. But in future videos, we're going to boil it down even more and make our production function concrete. We're going to start in the next video by taking a closer look at how capital -- machines, factories, roads, and so forth -- how capital contributes to economic growth. Let's dig in. - [Announcer] If you want to test yourself, click “Practice Questions." Or, if you're ready to move on, you can click “Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	The_LongRun_Aggregate_Supply_Curve.txt	♪ [music] ♪ [Alex] Last time, we introduced the aggregate demand curve. Today, we're going to add the long-run aggregate supply curve to our model. We're also going to show how real shocks can generate business fluctuations. Let's bring back some familiar characters: "A", "L", and "K". Earlier we saw that the key to a country's economic growth was combining human and physical capital with ideas and good institutions. So, every economy has a potential growth rate, given by these fundamental factors. Now do any of these fundamental factors depend upon the rate of inflation? No -- at least not in the long run. The long-run aggregate supply curve shows an economy's potential growth rate when all is going well. Thus, the long-run aggregate supply curve -- it's very simple -- just a vertical line at the economy's potential growth rate, or "Solow" growth rate -- the rate given by the fundamental factors of growth. That's the long run. We'll say more about the short run in a later video. We now have the aggregate demand curve, and the long-run aggregate supply curve. In this specific example, notice that spending is increasing at a rate of 10% per year, and the real economy is growing at 3% per year. So inflation is 7% per year. How can we use this simple model to help us to understand business fluctuations? Let's revisit how the U.S. economy has grown over time. On average, it grows at a rate of about 3% per year. But there are lots of fluctuations around this average. How come? One reason is that there are shocks to the key growth factors, shocks that continually buffet the economy. The supply of oil might leap up, or leap down. The weather can be an important positive or negative shock, especially in agricultural economies. We call shocks like this real shocks, because they directly affect how the factors of production are transformed into output. Even in developed economies, a bad hurricane, like Hurricane Sandy -- that can slow growth for a quarter or two. It's hard to run a factory, for example, when the factory has been flooded. Even factories far from the center of the hurricane -- they may have to slow down if they can't get parts, for example. Wars, or big changes in taxes, or regulations, or other government policies, can also shock the economy, as can changes in ideas, or technology. Weather shocks are easy to see. But keep in mind that the fundamental forces that drive an economy -- they're not always operating in smooth ways. Some days while working in my office, for example, I have a good idea! And my research output? It leaps forward! And other days, I just can't seem to get anywhere, or produce anything. Sometimes, it's even negative production! Economic growth is like that. Over time, ideas accumulate, and we do get progress. But it's not always a smooth process. Growth naturally comes in fits and starts. Real shocks in one area of the economy can also be amplified and transmitted to other areas of the economy. A shock to the banking sector, for example, can be amplified and transmitted to other sectors. And if the shocks are big enough -- yes, recessions, and even depression can be the result. Now how would a real shock be represented in our AD-AS model? A negative shock shifts the long-run aggregate supply curve to the left, which lowers growth and increases the inflation rate. A positive shock shifts the long-run aggregate supply curve to the right, which increases growth and reduces the inflation rate. Of course an economy -- it's experiencing lots of positive and negative shocks all the time. And over time, we'll see a process that looks like this. So now we have one source of business fluctuations: real shocks. These are shocks that shift the long-run aggregate supply curve. In the next video, we're going to turn to a second source of shocks -- aggregate demand shocks, or what John Maynard Keynes called animal spirits. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	How_Expert_Are_Expert_Stock_Pickers.txt	♪ [music] ♪ [Man on TV] You'll be under water! You'll be losing money! In other words, the dividend gain is not worth the principal loss. Whoa! I can't take the pain! That's when you want to be a buyer. [Alex] The world of investment advice is a crowded and noisy place. The good news is, you can turn down the shouting. And you also don't have to follow stock quotes minute-by-minute in order to be a smart investor. In the next few videos, we're going to lay out some rules for smart investing. No, we're not going to tell you how to get rich quick, but we will give you some good advice for getting richer slowly and steadily. Now let's start with Investment Rule #1: "Ignore the expert stock pickers." What if I told you that a blindfolded monkey throwing darts at the financial pages could select a basket of stocks that would do just as well as one chosen by the experts? That was the controversial claim made in 1973 by economist Burton Malkiel, in his book, A Random Walk Down Wall Street. Years later, one of his undergraduate students turned out to be journalist John Stossel. And Stossel -- he set out to test this claim. Now, blindfolded, dart-throwing monkeys -- they're not easy to come by and the lawyer's a little bit worried, so Stossel threw the darts himself. [John] My darts landed on 30 companies. How would they do compared to the stocks recommended by managed mutual funds? Oops! Better! [Alex] Sure, Stossel got lucky on his throws and he reaped high returns. But the lesson here turns out to be correct. Random picking does just as well as the professionals. Let's take a closer look. Most people invest in the stock market by buying a mutual fund, a portfolio of assets like stocks and bonds, managed by professionals. There's thousands of mutual funds. Some of them are actively managed. They have experts picking stocks and charging fees. The other type of mutual fund is called a passive mutual fund. Passive funds don't try to pick winners or avoid losers. They simply invest in a big basket of stocks such as the S&P 500. Now this chart shows the percent of mutual funds that were outperformed by the S&P 500. You can see that in most years, the S&P 500 beat a majority of the actively managed mutual funds. Okay, so perhaps you're thinking, "I got it. Most mutual funds don't beat the market, but what if I invest in the ones that do beat the market?” The problem with this strategy is that the funds that beat the market are different every year. In other words, past performance does not predict future performance. The funds that beat the market this year -- they probably got lucky. And they're unlikely to beat the market next year. In fact, one study looked at the 25% best-performing funds. How many of these funds were still top performers just two years later? Less than 4%. And after five years, only 1% of the initial top performers remained in the top quarter. So funds which are great this year -- they're probably not going to be so great in the future. They probably just got lucky. Okay, what about those very, very few funds that do beat the market over many years? Hasn't Warren Buffett, for example -- the world's most successful investor -- hasn't he shown that you can beat the market? Maybe. There's no denying -- Buffett's a very smart guy; he's made some very good choices. But it's actually harder to distinguish luck from skill than you might imagine. Let me explain. Imagine that we started with a thousand so-called experts, except all the experts do is flip a coin. Those who flip heads say the market is going to go up this year. Those who flip tails, say the market is going to go down this year. At the end of the year, 500 are going to be right -- purely by chance. Now suppose that those 500 then flip the coin again, and they make a new prediction. At the end of the second year, 250 of these so-called experts -- they'll have been right two years in a row. Again, purely by chance. Now keep going with this logic. At the end of 5 years, just 32 of the original 1000 -- they will have been right about the market 5 years in a row. Now these 32 -- they'll probably be labeled market geniuses. They'll show up on television. Their services will be in high demand. Perhaps some of them will write books about how to predict the stock market and get rich quick. What the laws of probability tell us, however, is that out of the initial 1000 experts, about 32 were going to predict the market correctly no matter what the market did. So are some market geniuses truly skillful? Sure. But it also helps to be lucky. And it's sometimes not obvious which is more important. In recent years, in fact, Buffett's investments haven't done all that well. So lesson number one is ignore the people who shout stock tips at you. [Man on TV] Dividends funded by debt and not excess free cash flow are just too risky to own from now on! [Alex] And definitely don't pay big bucks for professional money managers. But what if you have some information about what looks like a great investment? Can you beat the market? Well we're going to cover that and the Efficient Market Hypothesis in the next video. [Narrator] Check out our practice questions to test your money skills. Next up, Tyler will show you how a tragic space shuttle explosion can teach us about investing. Click to learn more. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Game_of_Theories_Real_Business_Cycle.txt	♪ [music] ♪ - [Tyler] Real business-cycle theory is about negative supply shocks. That word "real" in the name -- don't contrast it with the word "phony," but rather contrast it with "monetary." Real business cycles are not about monetary policy -- mostly they're about negative supply shocks. Now, the nice thing about real business-cycle theory is that it actually explains most business cycles in the history of the human race. Consider earlier economies where, say, 80% of GDP was agriculture. What then could be the negative shock? Well, imagine a whole year of bad rainfall, and then a very bad harvest. That would mean lower output for almost all of the economy. It would mean people have less to eat. It might even mean more malnutrition, and that would be a very bad macroeconomic event. That's just the simplest example of real business-cycle theory. Real business-cycle theory needs to be modified for more modern economies, which are more diversified. So, what would be an example? Consider America in the year 1973. What was the negative shock then? A much higher price of oil. OPEC, the oil-exporting cartel, raised the price of its oil to American buyers. Now, oil is an input into the production of many goods and services -- like airplane trips, or building automobiles, or bathtub rubber duckies. So, you have higher production costs. That means less will be produced, probably fewer workers will be hired, and, overall, incomes will be lower. Those initial negative shocks will work their way through the American economy, and that will mean successive negative shocks for other parts of the economy even if they don't use oil, and that ends up leading to a recession. Real business-cycle theory also can apply to the present day. Consider the economy of Brazil, where GDP has declined by more than 5% over the last two years. What have been the negative shocks? First -- falling commodity prices. Brazil exports a lot of commodities, commodities like soybeans, and cotton, and coffee, and minerals. Those commodities are bringing in lower prices on world markets, and that means lower incomes for a lot of Brazilians. Second -- bad policy. The behavior of the Brazilian government has been erratic and unpredictable, and this has increased the level of perceived risk in the Brazilian economy. So to graph a real business cycle, what does that look like? Well, in our basic aggregate demand-- aggregate supply model, it's pretty simple. The long-run aggregate supply curve is shifting to the left, and you can see that means a lower level of output. Over the medium term, due to propagation, it also may be that the aggregate demand curve shifts back and to the left, and that, of course, will make the problem worse. But again, the fundamental event is simply the shifting back and to the left of the aggregate supply curve. So what are the solutions when you have a problem based in real business-cycle theory? Well, first thing you can do is try to avoid the problem in the first place. If the risk is having an oil price which is too high, try to have invested in the first place in some energy alternatives. Second, ask yourself what can you do to make your economy more flexible so it can adjust to the negative supply shock more quickly. All of those responses will help limit the costs of having a negative real-business cycle. So, what are the problems in real business-cycle theory? There are at least two. First -- It doesn't explain all business cycles. A lot of business cycles do have to do with monetary policy, banking, and credit, rather than the supply side of the economy. A second problem with real business-cycle theory -- it's not always good on explaining why unemployment is so high over the course of many business cycles. If you imagine a negative shock hitting the economy, well, why don't workers just take lower wages and stay at work? And to explain those employment effects, often we need to supplement real business-cycle theory with other accounts of business cycles. So, to sum up, real business-cycle theory is a really good theory for many cases, but it leaves many others fundamentally unexplained. - [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Nominal_vs_Real_GDP.txt	♪ [music] ♪ - [Alex] Is the economy growing? Are people better off today than they were four years ago? What about 40 years ago? The GDP statistic can help us to answer all of these questions. But first, we do need to make some modifications. As we discussed in our first video, GDP sums up the prices of all finished goods and services. So that means that there are two ways the GDP can increase. First, prices can increase. In this case, the GDP number goes up, but the economy isn't actually producing more goods and services. It's inflation which is driving the higher GDP. The increase in GDP -- it might look good on paper -- but it's a mirage, a nominal increase only. The other way that GDP can increase is if we DO produce more valuable goods and services. That could mean simply more goods and services, or better goods and services, more highly-valued goods and services. It's this second type of increase in GDP that we want. This isn't a mirage, this is a real increase in GDP. Real GDP measures the second type of growth. And the Real GDP statistic -- it controls for inflation by adding up all the goods and services produced in an economy using the same set of prices over time. The same set of prices. Real GDP tells us -- if, if the prices of goods and services hadn't changed, how much would GDP have increased, or decreased? Real GDP -- it's typically what we really care about. Let's give an example. We'll be using a fantastic tool called the St. Louis Federal Reserve Economic Database, or FRED. FRED is every economist's best friend. So let's Google "US nominal GDP Fred." Here's what we get. We can see that we've grown from a GDP in 1950 of $320 billion, to a GDP in 2015 of over $17 trillion. Wow! That suggests that our economy has gotten 55 times bigger. But hold on, hold on, wait a moment, you might say. My grandmother told me that a loaf of bread used to cost a dime. And now it costs a couple of dollars. That's right. If we want to compare our economy over time, we need to control for changes in prices. So we don't want to look at Nominal GDP. We're more interested in Real GDP. So let's Google "Real US GDP Fred." Here's what we get. This graph measures Real GDP in 2009 dollars. That means using 2009 prices. This graph tells us that using 2009 prices consistently, that in 1950, all the goods and services produced at that time were worth about $2 trillion. In comparison, in 2015, all the goods and services produced at that time were worth about $16 trillion. So while Nominal GDP says that the economy is 55 times bigger in 2015 than in 1950, Real GDP shows us that it's 8 times bigger. That's still pretty good, but a big difference between Nominal GDP and Real GDP. Okay. So now we've controlled for prices, but there's another big difference in the US economy in 1950 compared to today. Right - there's a lot more people today. We can control for the population size by using Real GDP per capita, or per person. By dividing Real GDP by a country's population, we get a good, albeit imperfect, measure of the average standard of living in a county. So once again, let's Google, "Real GDP per capita FRED." Here's what we get. In 1950, Real GDP per capita, measured in constant prices, was about $14,000. In 2015, Real GDP per capita is about $50,000. So on average, people in 2015 have a standard of living that's four times higher than the people in 1950. That's a pretty big and a remarkable increase in the standard of living. By the way, since Real GDP increased by eight times, and Real GDP per capita increased by four times, we know immediately that the population approximately doubled between 1950 and 2015. Now let's take a closer look at this graph. We can see another reason why we're interested in the GDP statistic. Real GDP per capita declines during recessions. In fact, a decline in Real GDP is part of what defines a recession. Declines in Real GDP also tend to be accompanied by increases in unemployment. You can see here that when Real GDP dips, the unemployment rate spikes. Now here's another nice feature of the FRED database. On the Real GDP per capita graph, click "Edit data series" and then switch to percent annual changes. So now we can see immediately the annual changes in Real GDP. You can see, for example, the big recession in 2008 and 2009. In 2009, for example, the economy shrank by 3.6% compared to the year before. That's a very big and a very unpleasant decline. Okay. So now you've got your hands around Real GDP as a way of measuring the health of our economy. And I said that Real GDP per capita is a good, albeit imperfect measure of the average standard of living in a country. But is that really true? Does an increase in Real GDP per capita mean that we're better off? That's the view that I'm going to defend in the next video. - [Narrator] If you want to test yourself, click "Practice Questions." Or, if you're ready to move on, you can click "Go to the next video." You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Who_Is_More_Rational_You_or_the_Market.txt	♪ [music] ♪ [Tyler] We saw in earlier videos that markets respond quickly to new information, and often times, accurately. This is sometimes called, The Wisdom Of Crowds. And this leads us to Investment Rule #4: Even if markets are sometimes imperfect or irrational, do not try to beat the market. Markets can be wiser than any individual trader. Ultimately, markets are constrained by the rationality of traders, but traders themselves are not always rational. People have all kinds of biases: they can be overconfident, they tend to follow the herd, they're not always very numerate, and the list goes on. It's not surprising, therefore, that markets don't always behave efficiently. Markets, for instance, tend to be more volatile than might be expected from rational factors alone. Robert Shiller won a Nobel Prize in Economics for his work in this area. There are also market anomalies we've seen over the years, things like the Monday Effect and the January Effect, which say that stocks tend to fall more on Mondays than on other days, or maybe they increase more in Januaries than in other months. There has been some evidence for these effects, but the effects tend to disappear once investors learn about them. More stable, perhaps, is the Momentum Effect, which says that past performance does predict future performance at least a little bit. In particular, portfolios that buy past winners tend to outperform in the medium term. This could happen because, although investors respond to information in the right directions, they sometimes underrespond. For instance, good news is not always fully reflected right away in prices. And so, buying past winners can sometimes yield extra profits. But I would stress, this is by a very small amount. In a course on what is called "Behavioral Finance," we would spend more time on these possible price anomalies and different explanations for their presence. In this talk, however, I'd like to focus on the most important points for you as a personal investor. At the end of the day, market inefficiencies or not, the market is still really hard to beat. Remember that despite some possible market inefficiencies, most money managers don't beat the market, and even fewer do so year after year. So, should you try to beat the market? No. Don't forget that you, too, are subject to overconfidence, you probably don't update probabilities perfectly efficiently, and when the stock market is crashing, you too are likely to behave more emotionally than you should. In short, most of the time, the market is probably more rational than you are, even if all of us are a little crazy at times. Even the great investor, Warren Buffett, who at times has beaten the market himself, doesn't think that most other investors should try to do the same. [Warren Buffett] I got a dual answer to that. If you are not a professional investor. If your goal is not to manage money in such a way as to get a significantly better return than the world, then I believe in extreme diversification. [Tyler] In fact, Buffett has told his heirs, "Don't do what I do. Invest in general, well-diversified index funds instead." We agree. And so the takeaway here is: even if markets are inefficient or irrational, you still shouldn't try to beat the market. [Narrator] Check out our practice questions to test your money skills. Next up, we'll tackle housing: rent or buy? ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Geography_and_Economic_Growth.txt	Think about some of the biggest and most prosperous cities you've been to. What do many of them have in common? Water. They sit on a major coast or on a major river. This map shows GDP density - how much GDP is produced per square kilometer. You can see that the coasts of the US and the areas along the navigable rivers of the Great Lakes regions are just chock full of GDP. Likewise in Western Europe, in Japan along the coast of China, and the coast of Australia. Why is this? It's much cheaper to transport goods over water than over land. So, Adam Smith argued that access to water reduced the cost of trade and gave merchants access to larger markets. In turn, larger markets gave merchants a greater incentive to specialize and to innovate. As a result, civilization grew where trade was easiest. Even today, countries that are landlocked are on average poorer than countries that have access to a coast. What's the most landlocked continent of all? It also happens to be the continent with the most poor countries. Africa. First off, Africa is enormous. You can fit most of the United States, China, India and a lot of Europe into Africa. That's big. Second, Africa is landlocked. While Africa is far bigger in total size than Europe, if you just measure the coastline, Europe has 2 to 3 times more coastline than does Africa. And because Africa is big and landlocked, trade is more expensive, and economic growth, slower to start. What we learned from this foray into civilization and geography is 2 things. First, being landlocked is like a natural tariff, a natural tax on trade. And if natural tariffs are bad for growth, then perhaps tariffs created by governments aren't that great for growth either. Second, growth is not just about policy. Some places have natural blessings that have helped those places to prosper. And that too helps us understand our world. [Announcer] If you want to test yourself, click "Practice Questions". Or, if you're ready to move on, you can click "Go to the Next Video." You can also visit MRUniversity.com to see our entire library of videos and resources.
Principles_of_Economics_Macroeconomics	Understanding_the_Great_Depression.txt	♪ [music] ♪ [Alex] Now that we have covered the mechanics of the aggregate demand– aggregate supply model, let's use the model to help us to understand the worst recession in U.S. history: The Great Depression. The Great Depression was unlike any recession in recent times. Unemployment rose above 20%. 40% of all banks failed. GDP plummeted by 30%. And the stock market lost two-thirds of its value in just ten years. The Great Depression was largely caused by a series of negative aggregate demand shocks. But real shocks also contributed and slowed recovery. Let's start in the 1920s -- The Roaring Twenties. ♪ [ragtime music] ♪ The economy was growing by almost 3% per year in per capita terms, and inflation was 0%. In 1929, however, the stock market crashed, partly caused by a reduction in the money supply. Investors lost a lot of wealth in the crash, and they reduced their consumption. Pessimism began to grow. And as pessimism grew, bank depositors began to worry about the banks, and some of them began to withdraw their money. This was a time before deposit insurance, so if you thought that your bank might go bankrupt, it made sense to run to the bank and withdraw your money before everyone else did. During The Great Depression, thousands of banks failed, in four waves. And with each wave of bank failure, fear and uncertainty increased, leading to further reductions in consumption. Businesses began to look around, and they began to think -- "Maybe I should hold off on building a new factory. Let's just wait, and see what happens." This decline in investment spending was another shock to aggregate demand. Overall, investment dropped by an astounding 75% between 1929 and 1933. By 1940, the capital stock was actually lower than it had been in 1930. Aggregate demand had already been reduced drastically by 1931, and the U.S. economy was in bad shape. But then, in the early 1930s, the Federal Reserve allowed the money supply to plunge by nearly 30% -- the largest negative shock in aggregate demand in U.S. history. By 1932, economists estimate that America's real growth rate was -13%, and inflation was -10%, a deflation. This extreme deflation made the situation even worse, because deflation increases the burden of debt. Suppose you owe $100. If prices fall by 10%, then your real debt has, in effect, been increased by 10%. You have to work harder and longer to pay the same debt. The deflation made debtors worse off -- bankrupting some, and causing others to cut back spending even more. Now, in theory, the creditors were better off. But, in practice, the debtors cut back on their spending more than the creditors increased spending. So deflation increased the burden of the debt and led to further falls in aggregate demand. The uncertainty, and the shrinking economy meant that even people who had money, they didn't want to spend -- not much on consumption, and certainly not on investment. The bottom line is that pretty much everyone wanted to spend less, but the only way that everyone can spend less is if the economy shrinks. And that's exactly what happened. The Great Depression is, in many ways, the great fall in aggregate demand. But real shocks also contributed to, and slowed the economy's recovery. The bank failures mentioned earlier actually had two effects. When people lost their money, they couldn't spend, and so aggregate demand fell. But, in addition, the banks were financial intermediaries. And so when the banks failed, the bridge between saving and investment collapsed, and the economy became less efficient. As is often the case, real shocks are often intertwined with aggregate demand shocks. As if all this wasn't bad enough, Mother Nature added to the problems of the U.S. economy. The Dust Bowl -- that was another real shock. In the early years of the Great Depression, farmland in Texas, Oklahoma, New Mexico, Colorado, and Kansas -- farmland dried up, and literally blew away. Farming became less productive as crops failed, and there wasn't enough water for all of the livestock. Between 1930 and 1940, some three and a half million people in the Plains States picked up and moved -- a mass migration, like the Gold Rush, but in reverse. This was a tremendous hit to the productive capacity of the U.S. agricultural sector. Finally, several policy decisions also caused negative real shocks. The Smoot-Hawley Tariff, for example, enacted in 1930, taxed foreign goods. If nothing else had changed, this might have increased aggregate demand by encouraging spending on domestic goods. But in reality, other countries retaliated with similar tariffs, so our exports fell. Tariffs were also a real shock to the economy, because trade is a kind of technology. Trade lets us take one good, and transform it into another good. Tariffs make that technology less efficient, just like a productivity shock. Finally, the National Industrial Recovery Act was a terrible piece of legislation. Under the Act, hundreds of industries adopted government-mandated codes that reduced competition, and prevented firms from lowering prices. In one famous case a tailor was fined and thrown in jail for charging 35 cents to press a suit instead of the legally required 40 cents. Moreover, at a time when investment was far too low, the Act put quotas on investment, and made competition in many industries illegal. Industries became monopolized and filled with cartels. Higher prices, lower output, less competition -- all of this delayed recovery. Fortunately, some of the worst parts of the Act were declared unconstitutional in 1935. All of these real shocks, both natural and manmade -- they made an already bad situation even worse. It's impossible to cover the full complexity of the Great Depression in a short video. But that gives you a good overview of the essence of the crisis. But if you'd like to hear more about the Great Depression, vote here. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Monetary_Policy_The_Best_Case_Scenario.txt	♪ [music] ♪ [Alex] Monetary policy looks easy, when it's just a matter of shifting some lines on a graph. But, in practice, it's considerably more difficult. Choosing the right tools -- and when, and how to use them -- is both an art and a science. To illustrate the difficulties, let's look at a relatively easy scenario -- a negative shock to aggregate demand, driven by what John Maynard Keynes called "animal spirits" -- emotions and instincts, confidence and fear. Suppose that the economy has been growing at a rate of 3% per year, and the inflation rate is 7%. Now imagine the consumers -- they become more pessimistic. They borrow and spend less. Banks lend less. Entrepreneurs cut back on expansions, and they invest less. All of this causes a negative shock to aggregate demand. The AD curve shifts to the left. Now notice that without an intervention, real GDP growth -- it's going to decrease, and the economy will move to point B. Now, in the long run, when fear recedes, we'll return to our steady-state growth level, but not without some sluggish growth and increased unemployment, or even a recession in the short run. Can the Fed... could it combat this sluggish growth with monetary policy? Yes! By increasing the growth rate of the money supply, the Fed could offset the negative aggregate demand shock. Looks great! Disaster avoided. If only it were so easy. At least three issues make it difficult for the Fed to choose the right course of action at the right time. First -- the quality of the data. It takes time to gather and analyze good data on the economy. Sometimes, in the past, revisions to the data have occurred years after the actual events. But the Fed -- it can't wait for the revisions. It has to act now. Second -- timing. The Fed's actions take time to affect the economy, usually some 6 to 18 months after the fact. So even if the Fed correctly identifies the problem and acts right away, the situation may have changed by the time that its policies begin to take effect. And third -- control. The Fed's control of the money supply -- it's incomplete and imperfect. Many of its tools rely on other actors, such as banks. As we saw during the Great Recession, the banks -- they stopped lending like they normally do. So some of the Fed's tools became less effective. So what happens when the Fed doesn't get its policy just right? If the Fed undershoots, or doesn't stimulate the economy enough to offset the aggregate demand shock, then growth -- it'll still be sluggish in the short run, as the economy slowly adjusts back to the natural growth rate. More problematic is when the Fed overshoots. When the Fed increases the money supply beyond what's needed, then the economy -- it can overheat. Sure, we may get some more real growth in the short run, but we're also going to get more inflation. Price signals become distorted. And it's difficult for the Fed to course-correct. In fact, if the inflation rate gets too high, the Fed will want to reduce the inflation rate -- a disinflation. But that too will likely cause unemployment. Many economists think that the Federal Reserve did overstimulate the economy in the 1970s. By the end of the 1970s, inflation was running away at over 13% a year. And Ronald Reagan was elected to the presidency in 1980, in part to change economic policy. By 1983, the Federal Reserve, under cigar-chomping chairman Paul Volcker -- it had brought inflation down to 3%, but at the price of a very severe recession. So the cost of stimulating the economy in the 1970s was very likely even more unemployment in the early 1980s. We'd sure like the Fed to hit the "just right," the "Goldilocks" amount of economic stimulation, but it's not easy. And remember -- this was the simple scenario, the easy scenario. Next, we're going to examine a more difficult challenge -- the challenge the Fed faces when the economy experiences a negative real shock, and the long-run aggregate supply curve shifts. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Four_Reasons_Financial_Intermediaries_Fail.txt	♪ [music] ♪ [Tyler] Modern economies rely upon financial intermediaries to bridge the gap between savers and borrowers. Much like our real bridges, it's only when the metaphorical bridges of financial intermediation crumble that we recognize just how dependent we are on them. Many businesses rely on credit to operate and to grow. So when the credit dries up, they go bankrupt and lay off workers, or at the very least they find it harder to keep on growing. Individuals rely on borrowing to invest in education, housing, and to get their car fixed so they can still get to work even if they don't have enough cash on hand to pay for needed repairs. When these bridges fail, we can better appreciate how difficult it is to thrive in economically underdeveloped countries. The woes we experience temporarily during a crisis, well, they're just a taste of what is often a more permanent state of affairs in many of the poorer nations. Most people in many poor countries don't have access to a system that gives them a safe and cheap place to invest and grow their money. Nor do they have an avenue to borrow money and invest in their businesses at reasonable cost. That's one reason why many of these economies fail to grow. So why does financial intermediation fail to get built well in many poorer countries? Why does intermediation sometimes get built and then crumble? Like the rest of the economy, a strong financial system relies on good institutions. There are four primary reasons why financial intermediation might fail: insecure property rights, controls on interest rates, politicized lending, and finally, runs, panics and scandals. First up is -- insecure property rights. When you deposit your money in a bank, you expect to be able to take your money out. That seems pretty straightforward. But it's not always the case. For example in Cyprus, government authorities confiscated some bank deposits during the financial crisis of 2013 in order to try to alleviate their massive government budget shortfall. In Argentina and Brazil, deposits have been frozen so that they could not be withdrawn. Some of those banks eventually went under and depositors never really recovered their money. This can happen in stock markets as well. The Russian government confiscated or restricted the value of share holdings in Yukos, a private energy company. In all of these examples, insecure property rights scare savings away and that causes intermediation to fail, leaving borrowers without access to lending. Intermediation can also break down in less dramatic ways. Many places, for instance, have laws in place to limit the interest rate that someone can be charged for a loan. These are called usury laws. You might think it's outrageous to pay 20% or more in interest on a loan. I've seen loans for 50, 100%. Is that always bad? Well, it's not quite so simple. If an interest rate is just the price of borrowing, then what's a legal limit on that price? A price ceiling. And we know from economics, price ceilings typically don't work well. In other videos, we've covered how price ceilings on gasoline in the 1970s caused massive shortages and very long lines at gas stations. Likewise, usury laws force an interest rate to be below the equilibrium interest rate. And that's going to mean there will be more borrowers who want to borrow at that controlled rate than there will be lenders willing to lend. This means a funds shortage, and a drop in the overall quantity of lending. So, usury laws typically hamper the flow of money over the bridge and prevent exchange between willing savers and borrowers. We talked previously about how banks play an important role in assessing risk and lending funds to those who can pay the money back. Of course, many banks do make a fair number of bad loans, but over time competition drives the banks who are worse at lending out of business, while the banks who are better at assessing credit risk -- they are more profitable and they grow. However, this isn't always the case. We've previously labeled Japan as an economic growth miracle, as the country exploded in prosperity in the second half of the 20th century. However, more recent times haven't been so dynamic. With Japan experiencing the famous “Lost Decade” from 1990 to 2000, where their economy barely grew at all. To some extent, the stagnation has unfortunately continued. Part of the problem in Japan was due to the failure of their financial intermediaries. There were banks in Japan that were insolvent -- in essence dead, -- but they were propped up by the government, turning them into zombie banks. Now, propping up these zombies disabled the competitive process that over time moves resources and funds to the better banks who are better able to evaluate, risk, and lend, and thus it kept funds away from the better and more profitable companies with the brighter futures. That's what zombies will get you. Government involvement in banks, whether through bailouts or direct ownership or intervention -- it also tends to lead to money being lent to those who are politically connected. So rather than scanning the landscape for loan candidates based on economic merit, bank managers tend to direct money based on political connections. We can see this failure of intermediation in the data. The larger the fraction of government ownership of banks, the worse a country does in terms of both growth of GDP per capita, and growth in productivity. Trust is a vital part of the financial system as well. Banks maintain fractional reserves, meaning that they don't have enough cash on hand to give every depositor his or her money back if they all were to come and wish to withdraw the money within a short period of time. If depositors lose trust in banks' ability to give them back their money, they'll rush to the bank to pull out their deposits, causing what is called a bank run. A bank run can cause banks to fail or suspend operations, which in turn leads to a rash of business failures due to a credit crunch. Bank runs were seen in the American Great Depression, and they were one of the primary reasons almost half of the banks failed during that time. In response, the U.S. government created the Federal Deposit Insurance Corporation, or FDIC, to try and prevent further bank runs. The FDIC ensures that depositors can get their money back, even if their bank fails. We'll talk more about the Great Depression in our section on business cycles. Trust issues are not limited to banks. Scandals such as those connected to Enron, WorldCom, and Bernie Madoff shook the trust of investors when they happened. If investors think that most managers are mainly looking to rip them off rather than build long term capital growth, that will scare investors away. So we've covered four common causes of failure in financial intermediation. Which of these came up in the Great Recession of 2008? That's the topic we'll turn to next. [Narrator] If you want to test yourself, click “Practice Questions.” Or, if you're ready to move on, you can click, “Go to the Next Video.” You can also visit MRUniversity.com to see our entire library of videos and resources. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	The_Fed_as_Lender_of_Last_Resort.txt	♪ [music] ♪ [Alex] In our earlier videos, we discussed how the Fed uses its control of the money supply to increase or decrease aggregate demand. The Fed, however, has another tool at its command. In a panic, when depositors are running to their bank to withdraw their money, when lenders are refusing to lend, when fire sales are burning down the house, when no one knows where to turn, they turn to the the Fed, the lender of last resort. Panics can be especially dangerous because in the right circumstances they can be set in motion by the tiniest of tremors, and yet they can quickly grow and spread so that they become self-fulfilling. A panic, for example -- it might start with a simple rumor that a financial institution like a bank is insolvent. An insolvent institution is one with more liabilities than assets. If depositors and lenders fear that their bank is insolvent, they'll quickly rush to withdraw their money, knowing that the last people to withdraw -- they'll be the ones holding the bag. The rumor could even be false. Perhaps the bank has lots of assets, but its assets are illiquid. An illiquid asset is one that's worth a lot in the future, but it can only be sold today at a much lower price -- perhaps because the asset is difficult to value, and it takes time to find the right buyer. Now think about banks. The main assets that banks hold are loans -- loans that are difficult to value, and that won't pay off until the future. So banks hold lots of illiquid assets. And if the bank is forced to liquidate early to pay its depositors or lenders, that can create a lot of waste. Banks establish long-term relationships with their customers. Consider a software project, for example. The developer has explained the project to the bank and they get funding. They finish half of the code and they need another loan. It makes sense to go back to the same bank. No one else will understand the project as well. If that bank can't fund the project, the whole thing will probably die! Not only will it be hard to explain the idea to other investors -- those investors may fear an adverse selection problem. Why isn't the bank that knows the project the best making the loan? It's suspicious. A bank run can break the continuity, which is necessary to fund high-value, long-term projects. The depositors, however -- they can't really tell whether the bank is really insolvent or just illiquid. And any hint that the bank isn't ready to pay everyone on demand -- that could make the panic spread. This is where deposit insurance and the Federal Reserve come in. Deposit insurance tells depositors, "Don't worry! Even if the bank is insolvent, you'll still be paid." And because of that guarantee, there's no run. And the bank isn't forced to stop funding the software project until it's finished. When deposit insurance isn't enough, or when the financial institution isn't covered by deposit insurance, then the Fed can step in as the lender of last resort and provide the bank enough cash to pay off any depositor that wants to be paid off -- again, without requiring the bank to liquidate its assets too early. Traditionally, the Fed lent to solvent but illiquid banks -- to get them through a temporary squeeze -- and it wound down insolvent banks. But in a panic, the Fed may also have to lend to insolvent banks. It may have to bail them out. The problem in a panic is the problem of systemic risk. In a panic, if one financial institution goes down, it's likely to take others with it, like dominoes. The bankruptcy of one insolvent financial intermediary could take illiquid but solvent institutions down with it. So the Fed sometimes has to bail out some insolvent banks in order to protect the entire system. At the height of the 2008-2009 financial crisis, for example, the Federal Reserve, the Federal Deposit Insurance Corporation, and the U.S. Treasury stepped in to support the financial system on an unprecedented scale. Deposit insurance, which traditionally had been limited to $100,000 for each bank account -- in effect, it was extended to all accounts, increasing the amount insured by some $8 trillion. In addition, the U.S. Treasury guaranteed trillions of dollars in money market funds, and the Fed also became the lender of last resort to the commercial paper market. The Fed also went from lender of last resort to owner of last resort when it assumed a majority ownership stake in the insurance company AIG. Why? Because the bankruptcy of AIG would have threatened many other financial intermediaries, and the Fed wanted to create a line break to stop the dominoes from toppling over. Finally, the U.S. Government stepped in as a lender of last resort and partial owner of General Motors when GM couldn't get funding from banks. But here is the problem. What would you do if you were told that you could invest in anything, and the government would step in and bail you out if you failed? It's pretty clear -- you'd take on more risk, since you would get the benefit of the upside, and the government would be left with the downside. This is the fundamental problem that the Fed faces. When individuals or institutions are insured, they tend to take on too much risk -- the problem of moral hazard. Big financial institutions -- too big to fail? They have too little incentive to make responsible financial investments. This, in part, is also why the Fed has the role of regulating banks. To minimize this reckless behavior, the Fed imposes conditions on what assets the bank can and must hold. Regulations like this, however -- they have costs of their own, including a more bureaucratic and less flexible banking system. Limiting systemic risk while checking moral hazard -- that's the fundamental problem the Fed faces as a bank regulator. And today, the shadow banking system does more lending than the traditional banks. And in addition, the financial system has become more complex and intertwined as financial assets are packaged, subdivided, bought and sold more than ever before. As a result, the Fed's lender of last resort and regulatory functions have become much more important and much more complex. The Fed is trying to steer a course between these two problems. If a panic occurs, it may be best to bail out some firms -- even bad actors -- to protect the system. And yet, the promise to bail out firms in a future panic -- that encourages risk-taking, and it increases the probability that a panic will happen in the first place. It's not obvious that the Fed has the tools to steer clear of both problems. This is the great dilemma of modern monetary policy. [Narrator] You're on your way to mastering economics. Make sure this video sticks by taking a few practice questions. Or, if you're ready for more macroeconomics, click for the next video. Still here? Check out Marginal Revolution University's other popular videos. ♪ [music] ♪
Principles_of_Economics_Macroeconomics	Office_Hours_The_Solow_Model_Investments_vs_Ideas.txt	♪ (intro music) ♪ [Mary Clare] I've reviewed the data online. I've talked to a ton of college students. Everyone is missing this one question. It's time to make a video. ♪ (music) ♪ Today, we're going to take a closer look at the Solow Model by evaluating how different inputs affect a country's economy. Consider the following two Countries: Inventive and Thrifty. In Inventive, the country's economy grows according to the following production function: gross domestic product equals two times the square root of K, and it devotes 25% of GDP to making new investment goods. Thrifty's production function is given by GDP equals the square root of K, and it devotes 50% of its GDP to making new investment goods. Both countries begin with $100 worth of capital, and both countries have the same capital depreciation rates and the same population. If you had to choose, in which country would you prefer to live? As always, check out our recent videos on the Solow Model, and then try to solve this problem by yourself. If you're stuck, then come back and we'll work through it together. Ready? I really like this question. To get a better idea of what this question is actually asking, let's compare the two countries side by side to understand similarities and differences. First, we'll compare the two countries' production functions, and we see that they differ by a multiple of two, which loosely translates to the country's ideas or productivity. So Inventive, as its name suggests, is more productive with its factor of production, capital, than Thrifty is. So, what does Thrifty have going for it? Not surprisingly, Thrifty has that higher savings rate. It's saving 50% of everything it produces GDP-wise each year, versus Inventive's 25%. And everything else is the same: capital stock, depreciation rates, and population. So what this question is really asking is, is it more important for a country to have a high savings rate like Thrifty, or have more ideas and therefore be more productive, like Inventive? Where would you prefer to live? The trickiest part here is translating what an ordinary citizen cares about into something the Solow Model actually tracks. Solow doesn't measure faster Wi-Fi, even though we all care about that. I mean, sure, we can and we will look at how much GDP each country has, how much it's investing in its capital stock, the usual Solow suspects. But the real key here is not so much GDP per se, but rather the GDP that's left over once we're done investing: consumption. Consumption is that neglected variable in the Solow Model, but it's arguably what citizens will care most about given the Simple Solow Model framework. So to outline our steps for solving the problem, we'll first track Thrifty's economic prospects on those three dimensions: GDP, investment, and consumption. We'll then do the exact same thing for Inventive, and finally we'll compare the two to decide where we'd rather live. The first step is to find Thrifty's economic prospects. Thrifty's production function is GDP equals the square root of K. Its initial capital stock is 100, so the square root of 100 is 10. This country is producing 10. And, if this country is saving 50% of its GDP each year, then the country is saving 5 of that 10. More formally, we can graph its investment function as I equals 0.5 times the square root of K. If it's producing 10 and investing 5, what's left over for consumption? 10 minus 5 is 5. Now on to step two, which is to do the exact same thing for Inventive. Its production function is GDP equals 2 times the square root of K. And, given that it has the same initial capital stock as Thrifty, 100, its GDP this year is the square root of 100 times 2, or 20. If it's investing 25% of GDP per year, 25% of 20 is 5. More generally, its investment curve is 0.5 times the square root of K. And again, consumption is just the leftover GDP after investment. So 20 minus 5, or 15. A quick aside here, notice that the two countries' investment curves are the same. We'll revisit this later. So we now move on to step three, which is to compare the two. Inventive seems like the clear winner here. Not only does it have a much higher GDP than Thrifty, but more importantly for the citizen, the amount of GDP available for consumption is much higher: Inventive's 15 compared to Thrifty's 5. Two things to note here. First, you may think the difference between consuming something like 5 and 15 is really boring. Like, who cares? Those numbers are really small. So let's try to put it in real-world terms. Inventive citizens consume three times as much as Thrifty citizens. This means that if Thrifty citizens consumed, say, $30,000 worth of stuff this year, Inventive citizens would be consuming $90,000 worth of stuff this year. Suddenly, 5 versus 15 seems like a much bigger deal. And second, even though population doesn't factor directly into our Super Simple Solow Model, it's important that the populations of these two countries are equal, as the problem originally states. Given equal populations, we know that GDP and consumption per person, or per capita, will also be higher in Inventive than in Thrifty. Now, if we were in a normal classroom right now, this is probably the time when you would raise your hand and say something like, "This looks great. But, what about these two countries in their steady states? What if Thrifty, because of all of their saving, will be far better off than Inventive in another, I don't know, say 10 years?" This is exactly the question you should be asking. It means that you understand the whole point of the Solow Model. It turns out that our answer will hold in the steady state. Inventive will produce and consume more GDP in the long run. If you want to better understand why and how it holds, check out our practice problems at the end of the video. In summary, Inventive citizens get to consume more not only today, but also tomorrow, making it a more desirable country to live in. What does this tell us? It is incredibly important for a country to have new ideas and become more productive. Saving is great, and will do a lot to further a country's economic growth and prosperity, but it can only get us so far. As always, please let us know what you think. And if you'd like more practice, please check out our additional questions at the end of this video.
Principles_of_Economics_Macroeconomics	Office_Hours_Rule_of_70.txt	♪ (music) ♪ [Mary Clare Peate] I've reviewed the data online. I've talked to a ton of college students. Everyone is missing this one question. It's time to make a video. ♪ (music) ♪ Today, we're going to answer the following question from our growth-rates video. Suppose two countries start with the same real GDP per capita, but Country A is growing at 2% per year and Country B is growing at 3% per year. After 140 years, Country B's real GDP per capita will be how many times larger than Country A's? Now, before we begin, try to solve this problem on your own. So just put me on pause, slog through this alone and then come back and we'll do this together. And while you're at it, just like turn off your cell phone, close the cat videos. You know the drill. Okay, ready? The real trick here is to realize that we don't actually need to know this initial value. This number could be 2000; it could be 5 billion. No big deal. As long as these two countries have the same initial starting value, we're fine. We can solve this in three steps. First, find Country A's GDP per capita after 140 years. Next, do the exact same thing for Country B. And finally, compare the two. Now, for step one we need to find how many times Country A's GDP will double over 140 years. There are a lot of fancy formulas out there. Personally, I prefer the Rule of 70. Sure, it's an approximation. But it makes you feel pretty smart because you can do most of the math in your head. Super simple formula. All it is: 70 divided by the growth rate of the variable equals the time it takes for that variable to double. In the case of Country A, growth rate is 2%. Do the math. 70 divided by 2 is 35. This country is doubling once every 35 years. And over the time horizon of 140 years, this country will double 4 times, and will therefore grow by a factor of 2 to the fourth, or 16. Now, it's probably right about now you want to call a time-out. Where on earth did you come up with this 2 to the fourth? Honestly, this is a really confusing concept. It tripped me up back in the day as well, so we're going to go over it right now. We know Country A's real GDP per capita will double 4 times over the course of 140 years. But we don't actually know Country A's initial GDP value, so for simplicity let's just call it Y. After 35 years, Y is going to double to 2Y. And after another 35 year, 2Y, Country A's new GDP value, will double yet again to 4Y, and so on. 4Y doubles to 8Y, and 8Y doubles to 16Y at the end of 140 years. Now, this process of multiplying by 2 every 35 years can just be mathematically simplified to 2 to the fourth. So our final answer is 2 ^ 4 Y. This isn't exactly expressed in just a normal number like 6,532. Unfortunately, we have to express this final value in terms of A's initial value, Y. We've wrapped up with step one and now we can move on to step two, which is to find Country B's real GDP per capita after 140 years. Now, this is the exact same process we used for A, so it should go pretty quickly. Country B's growth rate is 3%. Plug that in to the rule of 70: 70 / 3 = 23 1/3. So Country B is doubling once every 23-ish years, such that over 140 years, this country's actually doubling 6 times. Now let's invoke déjà vu here from step one. Doubling six times is actually the same thing as Country B's initial starting value growing by a factor of 2 to the sixth. And since we actually don't know Country B's initial value, we're going to use Y because we do know it's the same as Country A's initial value. We're now ready to move on to step three and compare them. We can finally return to the initial question we're trying to solve, which is, how many times larger is Country B's GDP per capita than Country A's after 140 years? Now, it's obvious that the two are not equal, but we can set up an equation to compare and solve. In this instance we've added an X, which represents the difference between Country A's GDP and Country B's GDP. And so now we'll just go through and solve for X. Notice immediately we can cancel out those Y's, and then just using the law of exponents in division, we get 4, which means that Country B's GDP per capita is 4 times larger than Country A's after 140 years. And that's the answer. [Mary Clare] What did you think? What else do you need help with? Let me know by leaving a comment. Or, if you want some more practice, click here for additional questions. ♪ (music) ♪

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