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Essentials of Microeconomics (free ebook)

Essentials of Microeconomics

Economics is often defined as something along the lines of “the study of how society manages its scarce resources.” The starting point of most such studies is that individuals allocate their resources such that they themselves will get the highest possible level of utility. An individual has an idea of what the con- sequences of different actions will be, and she chooses that action she believes will produce the best result for her. She is, in other words, selfish and rational. Note that she is also forward-looking. She acts so that she in the future will get the highest possible level of utility, independently of what she has already done. That she is selfish does not have to mean that she is an egoist. However, it does mean that she will only voluntarily share with others if she believes that she thereby will maximize her own utility. We often call this simplification of human beings Homo Economicus.

The resources that we are talking about here could be labor, capital (such as machines), and raw materials. That they are scarce means there are not enough resources to produce everything we want. That, in turn, means that one has to weight different things against each other. To get more of one thing, one has to give up something else. If you, e.g., want to sleep an extra hour, it is impossi- ble to do so without giving up something else, such as an hour of studying. There is, consequently, a sort of a hidden cost to sleeping longer. This type of cost is called opportunity cost (or alternative cost). A classical saying in economics is that “there is no such thing as a free lunch.” This means that, even if you do not actually pay for the lunch, you always have to give up at least the time when you could have done something else. That is, you always have to pay the opportunity cost.

When we study microeconomics, it is primarily individual human beings and individual firms, agents, that we study. This is in contrast to macroeconomics, where one studies whole economies, and questions such as unemployment and inflation.

We begin our study of microeconomics by looking at a market with many buy- ers and sellers, i.e. a market where there is a large amount of competition. We will study such a market in more depth in Chapter 9, as well as other market types, but starting here makes it easy to get a feel for how the subject works.

The producer counterpart to the demand curve is the supply curve. It shows how large quantities the producers are willing to sell at different prices, given that other factors that can affects supply are held constant. The supply curve is typically upward sloping or horizontal (but it could also be downward sloping). The demand curve is also valid over a certain period. Later, we will distinguish between two time periods: short and long horizons.

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