INTRODUCTION TO MICROECONOMICS

INTRODUCTION TO MICROECONOMICS Graphs and Tables Part #3

Figure VI-1.1: An Increase in Demand in a Constant Cost Industry, Part 1 P • 1. Start at P = PLR, Π = 0 SSR SLR $20 D Q 100K The Market

Figure VI-1.2: An Increase in Demand in a Constant Cost Industry, Part 2 P • Start at P = PLR, Π = 0 • Increase in Demand • 3. P > PLR, Π > 0 causes entry. SSR $25 SLR $20 D Q 100K 105K The Market

Figure VI-1.3: An Increase in Demand in a Constant Cost Industry P • For an increase in demand: • Start at P = PLR, Π = 0 • Increase demand • P > PLR, Π > 0 causes entry. • Entry causes S to increase until P = PLR • and Π = 0 SSR S’SR $25 SLR $20 D’ D Q 100K 105K110K The Market

Figure VI-2: An Increase in Demand in an Increasing Cost Industry S P S’ • For an increase in demand: • Start at P = PLR, Π = 0 • Increase demand • P > PLR, Π > 0 causes entry. • Entry causes S to increase. • 5. So costs to increase and • P decreases until P = PLRand Π = 0 (back in LR equilibrium). SLR $35 $30 $20 D’ D Q 100K 105K110K The Market

Figure VI-3: An Increase in Demand in a Constant Cost Industry with Legal Entry Barriers P S • For an increase in demand: • Start at P = PLR, Π = 0 • Increase demand • P > PLR, Π > 0 but no entry occurs because of entry barriers. Π remains positive. $25 SLR $20 D’ D Q 100K 105K110K The Market

Explanation of Figure VI-3 • (1) Entry restrictions imposed when firm is in LR equilibrium (has no effect at that point). • (2) An increase in market demand occurs because income increases or population growth occurs. • (3) Increased demand causes an increase in the market price which creates positive profits (P > PLR). • (4) Positive profits would cause new entry but new entry cannot occur because of the legal entry barriers. These legal entry barriers create a Welfare Loss as seen in Figure VI-4 (because the supply curve cannot increase).

Figure VI-4: An Increase in Demand in a Constant Cost Industry with Legal Entry Barriers P S • Welfare Loss Analysis: • Entry barriers mean that consumers lose the extra CS (Areas 1, 2, and 3) that would arise from entry and price falling to $20. • Because of entry barriers, producers gain Areas 1 and 2 as PS. • Welfare loss or net loss is Area 3. S’ $25 2 1 3 SLR $20 D’ D Q 100K 105K110K The Market

Table VI-1: Statistics on US Farms, 1982 Source: USDA, Economic Indicators of the Farm Sector, 1982

Table VI-2: Statistics on US Farms, 1982 Source: USDA, Economic Indicators of the Farm Sector, 1982

Table VI-3: Statistics on US Farms, 1985

Source for Table VI-3: E.C. Pasour, Agriculture and the State, Independent Institute, 1990, p. 65

Table VI-4: Farm Production by Size Class, 2001

Source: EC Pasour and Randal Rucker, Plowshares and Pork Barrels, Independent Institute, 2005, p. 77.

Figure VI-5: The Instability of Farm Income Drought Year: TR = $4B Regular Year: TR = $3.6B Bumper Crop: TR = $1.6B S1 S0 S2 P D0 $10 $6 $2 QWHEAT 400M 600M 800M

Table VI-6: The Market for Wheat with Price Support

Figure VI-6: The Market for Wheat with Price Supports DPVT + USDA P S $26 ES PSUP = $14 $10 DPVT $2 Q 60 80 120 Consumers pay $14(60) = $840 USDA pays $14(60) = $840

Table VI-7:The Market for Wheat with Price Supports and Production Controls (PC)

Figure VI-7: The Market for Wheat with Price Supports and Production Controls S’ P S ES $26 PSUP = $14 $10 DPVT + USDA $2 DPVT Q 60 70 80 Consumers pay $14(60) = $840 USDA pays $14(10) = $140

Table VI-8: Target Prices

Figure VI-8: The Market for Wheat with a Target Price P $26 S PTAR = $14 $10 DPVT $2 Q 80 120 • Consumers Pay Farmers $2(120) = $240 • USDA Pays Farmers ($14-$2)(120) = $1,440

Figure VI-9: The Welfare Loss in a Market for Wheat with a Target Price P $26 S PG PTAR = $14 $10 WL DPVT $2 Q 80 120 CG

Explanation of Figure VI-9 • PG = Producers’ Gain • Producers’ Gain is the difference between the Producers’ Surplus (PS’) with the subsidy and the Producers’ Surplus (PS) without the subsidy • PS’ = ½ bh = ½(120)($14-$2) = $720 • PS = ½ (80)($10-$2) = $320 • So PG = PS’ – PS = $400

Explanation of Figure VI-9 • CG = Consumers’ Gain • Consumers’ Gain is the difference between the Consumers’ Surplus (CS’) with the subsidy and the Consumers’ Surplus (CS) without the subsidy • CS’ = ½ bh = ½(120)($26-$2) = $1440 • CS = ½ (80)($26-$10) = $640 • So CG = CS’ – CS = $800

Explanation of Figure VI-9 • CG = CS’ – CS = $800 • PG = PS’ – PS = $400 • Cost of Subsidy = (120)($14-$2) = $1440 • Total Gains = PG + CG = $1200 • Total Gains – Cost of Subsidy = Welfare Loss • WL = $1200 - $1440 = - $240

Figure VI-10a: Effect of Price Supports in the Short-Run SSR P DSR SLR ESSR PSUP Short-Run Cost To USDA P0 DLR Q

Figure VI-10b: Effect of Price Supports in the Long-Run SSR S’SR P DSR SLR ESLR PSUP Long-Run Cost To USDA P0 DLR Q

Explanation of Figure VI-10b • (1) Since PSUP > PLR, existing firms will now have positive profits. • (2) That will attract new entry. New entry will cause costs to rise (increasing cost industry) but prices do not fall because of the price floor. • (3) New entry continues until costs have risen enough to reduce profits equal to zero. (This occurs at PSUP.) • (4) Cost of price supports is larger in the LR than the SR.

Table VI-9: Size of Farm and Government Payments, 2001

Source: EC Pasour and Randal Rucker, Plowshares and Pork Barrels, Independent Institute, 2005, p. 81.

Table VII-1.1: Changes in Market Concentration for Dominant Firms Over Time

Table VII-1.2: Dominant Firms and Market Share Over Time

Table VII-1.1: Average and Marginal Revenue for a Monopolist/Price Searcher P $10 ED > 1 ED = 1 $5 ED < 1 D = AR Q 50 100 MR

Explanation of Figure VII-1.1 • (1) From the average-marginal relationship we note that the AR is falling (the downward-sloping demand curve) so the MR must be below it. • (2) Note that as P decreases in the elastic portion of the demand curve, TR increases so MR is positive. When P decreases in the inelastic portion of the demand curve, TR falls so MR is negative. Thus MR = 0 when TR a maximum at the unit elastic point. • (3) MR curve divides a line from the vertical axis to the demand curve in half.

Figure VII-1.2: Cost Curves of the Firm LRAC $ LRMC QMES Q

Figure VII-1.3: Profit-Maximizing Firm LRAC $ LRMC Π > 0 Pm D MR Q Qm

Figure VII-1.4: Monopolist/Price-Searcher Earns Negative Profits P LRMC LRAC Π < 0 ATC AR =Pm D = AR MR Q Qm

Explanation of Figure VII-1.4 • (1) Pm < LRAC(Qm) and Pm < ATCm • (2) Π = TR – TC = Q(AR –ATC) < 0 • (3) Π < 0 and exit in the LR occurs . • (4) In a constant cost industry, exit will cause an increase in demand because remaining firms will have a bigger share of the market. • (5) Demand increases until the demand curve is just tangent to the LRAC. Since Pm = LRAC(Qm) now Π = 0 and exit ceases.

Figure VII-1.5: Inefficiency and Price Searchers P LRMC LRAC WL Pm Pc D = AR MR Q Qc Qm

Explanation of Figure VII-1.5 • (1) Π = 0 so price searcher in LR equilibrium • (2) Inefficient because Pm > LRMC(Qm)? • (3) But this is as good as it gets.

INTRODUCTION TO MICROECONOMICS