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Microeconomics is a branch of
mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities worldwide, that are generally accepted by economists as a basis for discussion. Also known as orthodox economics, it can be contrasted to he ...
that studies the behavior of individuals and
firms Business is the activity of making one's living or making money by producing or buying and selling products (such as goods and services). Simply put, it is "any activity or enterprise entered into for profit." Having a business name A trade ...
in making decisions regarding the allocation of scarce resources and the interactions among these individuals and firms. Microeconomics focuses on the study of individual markets, sectors, or industries as opposed to the national economy as whole, which is studied in
macroeconomics Macroeconomics (from the Greek prefix ''makro-'' meaning "large" + ''economics'') is a branch of economics Economics () is a social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred ...
. One goal of microeconomics is to analyze the
market mechanism In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods a ...
s that establish
relative price A relative price is the price A price is the (usually not negative) quantity Quantity is a property that can exist as a multitude or magnitude, which illustrate discontinuity and continuity. Quantities can be compared in terms of "m ...
s among goods and services and allocate limited resources among alternative uses. Microeconomics shows conditions under which free markets lead to desirable allocations. It also analyzes
market failure In neoclassical economics, market failure is a situation in which the allocation of goods and services by a free market is not Pareto efficient, often leading to a net loss of economic value. Market failures can be viewed as scenarios where indivi ...
, where markets fail to produce efficient results. While microeconomics focuses on firms and individuals,
macroeconomics Macroeconomics (from the Greek prefix ''makro-'' meaning "large" + ''economics'') is a branch of economics Economics () is a social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred ...
focuses on the sum total of economic activity, dealing with the issues of
growth
growth
,
inflation In economics, inflation refers to a general progressive increase in prices of goods and services in an economy. When the general price level rises, each unit of currency buys fewer goods and services; consequently, inflation corresponds to a r ...

inflation
, and
unemployment Unemployment, according to the OECD The Organisation for Economic Co-operation and Development (OECD; french: Organisation de Coopération et de Développement Économiques, OCDE) is an intergovernmental economic organisation with 38&nbs ...
and with national policies relating to these issues. Microeconomics also deals with the effects of economic policies (such as changing
taxation A tax is a compulsory financial charge or some other type of levy imposed on a taxpayer (an individual or legal entity In law Law is a system A system is a group of Interaction, interacting or interrelated elements that act accord ...
levels) on microeconomic behavior and thus on the aforementioned aspects of the economy. Particularly in the wake of the
Lucas critique The Lucas critique, named for American economist Robert Lucas's work on macroeconomic Macroeconomics (from the Greek prefix ''makro-'' meaning "large" + ''economics'') is a branch of economics Economics () is the social science that st ...
, much of modern macroeconomic theories has been built upon
microfoundations In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods an ...
—i.e. based upon basic assumptions about micro-level behavior.


Assumptions and definitions

The word ''microeconomics'' derives from the Greek words μικρό (small, minor) and οικονομία (economy). Microeconomic study historically has been performed according to general equilibrium theory, developed by Léon Walras in Elements of Pure Economics (1874) and partial equilibrium theory, introduced by Alfred Marshall in Principles of Economics (1890). Microeconomic theory typically begins with the study of a single rational and utility maximizing individual. To economists,
rationality Rationality is the quality or state of being rational – that is, being based on or agreeable to reason Reason is the capacity of consciously applying logic Logic is an interdisciplinary field which studies truth and reasoning Reaso ...

rationality
means an individual possesses stable
preferences In psychology, economics and philosophy, a preference is a technical term usually used in relation to choosing between wikt:alternative, alternatives. For example, someone prefers A over B if they would rather choose A than B. Preference can also b ...
that are both complete and
transitive Transitivity or transitive may refer to: Grammar * Transitivity (grammar), a property of verbs that relates to whether a verb can take direct objects * Transitive verb, a verb which takes an object * Transitive case, a grammatical case to mark arg ...
. The
technical Technical may refer to: * Technical (vehicle), an improvised fighting vehicle * Technical analysis, a discipline for forecasting the future direction of prices through the study of past market data * Technical drawing, showing how something is con ...
assumption that preference relations are
continuous Continuity or continuous may refer to: Mathematics * Continuity (mathematics), the opposing concept to discreteness; common examples include ** Continuous probability distribution or random variable in probability and statistics ** Continuous ga ...
is needed to ensure the existence of a
utility function As a topic of economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumpti ...
. Although microeconomic theory can continue without this assumption, it would make
comparative statics In economics Economics () is a social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred to in botany Botany, also called , plant biology or phytology, is the science of plant ...
impossible since there is no guarantee that the resulting utility function would be
differentiable In calculus (a branch of mathematics), a differentiable function of one Real number, real variable is a function whose derivative exists at each point in its Domain of a function, domain. In other words, the Graph of a function, graph of a differen ...

differentiable
. Microeconomic theory progresses by defining a competitive budget set which is a subset of the
consumption set The theory of consumer choice is the branch of microeconomics Microeconomics (from Greek prefix ''mikro-'' meaning "small" + ''economics'') is a branch of economics that studies the behavior of individuals and Theory of the firm, firms in ma ...
. It is at this point that economists make the technical assumption that preferences are locally non-satiated. Without the assumption of LNS (local non-satiation) there is no 100% guarantee but there would be a rational rise in individual
utility As a topic of economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within thos ...

utility
. With the necessary tools and assumptions in place the utility maximization problem (UMP) is developed. The utility maximization problem is the heart of
consumer theory The theory of consumer choice is the branch of microeconomics Microeconomics is a branch of mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities worldwide, that ar ...
. The utility maximization problem attempts to explain the action axiom by imposing rationality axioms on consumer preferences and then mathematically modeling and analyzing the consequences. The utility maximization problem serves not only as the mathematical foundation of consumer theory but as a
metaphysical Metaphysics is the branch of philosophy that studies the first principles of being, identity and change, space and time, causality, necessity and possibility. It includes questions about the nature of consciousness and the relationship between ...

metaphysical
explanation of it as well. That is, the utility maximization problem is used by economists to not only explain ''what'' or ''how'' individuals make choices but ''why'' individuals make choices as well. The utility maximization problem is a
constrained optimizationIn mathematical optimization File:Nelder-Mead Simionescu.gif, Nelder-Mead minimum search of Test functions for optimization, Simionescu's function. Simplex vertices are ordered by their values, with 1 having the lowest ( best) value., alt= Math ...
problem in which an individual seeks to maximize utility subject to a
budget constraint In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...

budget constraint
. Economists use the
extreme value theorem 300px, A continuous function f(x) on the closed interval _showing_the_absolute_max_(red)_and_the_absolute_min_(blue)..html" ;"title=",b/math> showing the absolute max (red) and the absolute min (blue).">,b/math> showing the absolute max (red) an ...
to guarantee that a solution to the utility maximization problem exists. That is, since the
budget constraint In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...
is both bounded and closed, a solution to the utility maximization problem exists. Economists call the solution to the utility maximization problem a Walrasian demand function or correspondence. The utility maximization problem has so far been developed by taking consumer tastes (i.e. consumer utility) as the primitive. However, an alternative way to develop microeconomic theory is by taking consumer choice as the primitive. This model of microeconomic theory is referred to as revealed preference theory. The theory of
supply and demand In microeconomics Microeconomics is a branch of that studies the behavior of individuals and in making decisions regarding the allocation of and the interactions among these individuals and firms. Microeconomics focuses on the study ...

supply and demand
usually assumes that markets are perfectly competitive. This implies that there are many buyers and sellers in the market and none of them have the capacity to significantly influence prices of goods and services. In many real-life transactions, the assumption fails because some individual buyers or sellers have the ability to influence prices. Quite often, a sophisticated analysis is required to understand the demand-supply equation of a good model. However, the theory works well in situations meeting these assumptions.
Mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities worldwide, that are generally accepted by economists as a basis for discussion. Also known as orthodox economics, it can be contrasted to he ...
does not assume ''
a priori ''A priori'' and ''a posteriori'' ('from the earlier' and 'from the later', respectively) are Latin phrases used in philosophy Philosophy (from , ) is the study of general and fundamental questions, such as those about reason, Metaph ...
'' that markets are preferable to other forms of social organization. In fact, much analysis is devoted to cases where
market failure In neoclassical economics, market failure is a situation in which the allocation of goods and services by a free market is not Pareto efficient, often leading to a net loss of economic value. Market failures can be viewed as scenarios where indivi ...
s lead to
resource allocation In economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within those societies. T ...

resource allocation
that is suboptimal and creates
deadweight loss Image:Deadweight-loss-price-ceiling.svg, 250px, Deadweight loss created by a binding price ceiling. The producer surplus always decreases, but the consumer surplus may or may not increase; however, the decrease in producer surplus must be greater th ...
. A classic example of suboptimal resource allocation is that of a public good. In such cases,
economist An economist is a professional and practitioner in the social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred to in botany Botany, also called , plant biology or phytology, is the s ...

economist
s may attempt to find policies that avoid waste, either directly by government control, indirectly by regulation that induces market participants to act in a manner consistent with optimal welfare, or by creating " missing markets" to enable efficient trading where none had previously existed. This is studied in the field of
collective action Collective action refers to action taken together by a group of people whose goal A goal is an idea of the future or desired result that a person or a group of people envision, Planning, plan and commit to achieve. People endeavour to reac ...
and
public choice theory Public choice, or public choice theory, is "the use of economic An economy (; ) is an area of the production Production may be: Economics and business * Production (economics) * Production, the act of manufacturing goods * Production, in t ...
. "Optimal welfare" usually takes on a Paretian norm, which is a mathematical application of the Kaldor–Hicks method. This can diverge from the
Utilitarian Utilitarianism is a family of normative ethical theories that prescribe actions that maximize happiness and well-being Well-being, also known as ''wellness'', ''prudential value'' or ''quality of life'', refers to what is intrinsically va ...
goal of maximizing
utility As a topic of economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within thos ...
because it does not consider the distribution of goods between people. Market failure in positive economics (microeconomics) is limited in implications without mixing the belief of the economist and their theory. The demand for various commodities by individuals is generally thought of as the outcome of a utility-maximizing process, with each individual trying to maximize their own utility under a
budget constraint In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...

budget constraint
and a given consumption set.


History

Economists commonly consider themselves microeconomists or macroeconomists. The difference between microeconomics and macroeconomics likely was introduced in 1933 by the Norwegian economist
Ragnar Frisch Ragnar Anton Kittil Frisch (3 March 1895 – 31 January 1973) was a Norwegian Norwegian, Norwayan, or Norsk may refer to: *Something of, from, or related to Norway, a country in northwestern Europe *Norwegians, both a nation and an ethnic group ...
, the co-recipient of the first
Nobel Memorial Prize in Economic Sciences The Nobel Memorial Prize in Economic Sciences, officially the Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel ( sv, Sveriges riksbanks pris i ekonomisk vetenskap till Alfred Nobels minne), is an economics award administered ...
in 1969.Frisch, R. 1933. Propagation problems and impulse problems in dynamic economics. In ''Economic essays in honour of Gustav Cassel'', ed. R. Frisch. London: Allen & Unwin. However, Frisch did not actually use the word "microeconomics", instead drawing distinctions between "micro-dynamic" and "macro-dynamic" analysis in a way similar to how the words "microeconomics" and "macroeconomics" are used today. The first known use of the term "microeconomics" in a published article was from Pieter de Wolff in 1941, who broadened the term "micro-dynamics" into "microeconomics".


Microeconomic theory


Consumer demand theory

Consumer demand theory relates
preferences In psychology, economics and philosophy, a preference is a technical term usually used in relation to choosing between wikt:alternative, alternatives. For example, someone prefers A over B if they would rather choose A than B. Preference can also b ...
for the consumption of both
goods In economics Economics () is a social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred to in botany Botany, also called , plant biology or phytology, is the science of plant ...
and services to the consumption expenditures; ultimately, this relationship between preferences and consumption expenditures is used to relate preferences to . The link between personal preferences, consumption and the
demand curve In economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within those societies. ...

demand curve
is one of the most closely studied relations in economics. It is a way of analyzing how consumers may achieve
equilibrium List of types of equilibrium, the condition of a system in which all competing influences are balanced, in a wide variety of contexts. Equilibrium may also refer to: Film and television * Equilibrium (film), ''Equilibrium'' (film), a 2002 scien ...
between preferences and expenditures by maximizing
utility As a topic of economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within thos ...

utility
subject to consumer
budget constraint In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...

budget constraint
s.


Production theory

Production theory is the study of production, or the economic process of converting inputs into outputs.
Production Production may be: Economics and business * Production (economics) * Production, the act of manufacturing goods * Production, in the outline of industrial organization, the act of making products (goods and services) * Production as a statistic, g ...
uses
resource Resource refers to all the materials available in our environment which help us to satisfy our needs and wants. Resources can broadly be classified upon their availability — they are classified into renewable A renewable resource, also know ...

resource
s to create a
good 125px, In many Western religions, angels are considered to be good beings and are contrasted with devils who are considered evil In most contexts, the concept of good denotes the conduct that should be preferred when posed with a choice betwee ...
or
service Service may refer to: Activities :''(See the Religion section for religious activities)'' * Administrative service, a required part of the workload of university faculty * Civil service The civil service is a collective term for a sector of gove ...
that is suitable for use,
gift A gift or a present is an item given to someone without the expectation of payment or anything in return. An item is not a gift if that item is already owned by the one to whom it is given. Although gift-giving might involve an expectation o ...

gift
-giving in a
gift economy A gift economy or gift culture is a mode of exchange where Anthropological theories of value, valuables are not sold, but rather given without an explicit agreement for immediate or future rewards. Social norms and customs govern giving a gift i ...
, or
exchange Exchange may refer to: Places United States * Exchange, Indiana Exchange is an Unincorporated area, unincorporated community in Green Township, Morgan County, Indiana, Green Township, Morgan County, Indiana, Morgan County, in the U.S. state of In ...

exchange
in a
market economy A market economy is an economic system An economic system, or economic order, is a system A system is a group of interacting Interaction is a kind of action that occurs as two or more objects have an effect upon one another. The ide ...
. This can include
manufacturing Manufacturing is the creation or Production (economics), production of goods with the help of equipment, Work (human activity), labor, machines, tools, and chemical or biological processing or formulation. It is the essence of secondary sector ...
, storing,
shipping Freight transport is the physical process of transport Transport (in British English), or transportation (in American English), is the Motion, movement of humans, animals, and cargo, goods from one location to another. In other words, ...

shipping
, and
packaging Packaging is the science Science () is a systematic enterprise that Scientific method, builds and organizes knowledge in the form of Testability, testable explanations and predictions about the universe."... modern science is a disco ...

packaging
. Some economists define production broadly as all economic activity other than
consumption Consumption may refer to: *Resource consumption *Tuberculosis, an infectious disease, historically in biology: * Consumption (ecology), receipt of energy by consuming other organisms in social sciences: * Consumption (economics), the purchasing of ...
. They see every commercial activity other than the final purchase as some form of production.


Cost-of-production theory of value

The cost-of-production theory of value states that the price of an object or condition is determined by the sum of the cost of the resources that went into making it. The cost can comprise any of the
factors of production In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods a ...
(including
labor Labour or labor may refer to: * , the delivery of a baby * , or work ** , physical work ** , a socioeconomic relationship between a worker and an employer Literature * , an American quarterly on the history of the labor movement * ', an academic ...

labor
,
capital Capital most commonly refers to: * Capital letter Letter case (or just case) is the distinction between the letters that are in larger uppercase or capitals (or more formally ''majuscule'') and smaller lowercase (or more formally ''minusc ...
, or
land Land is the solid surface of Earth that is not permanently submerged in water. Most but not all land is situated at elevations above sea level (variable over geologic time frames) and consists mainly of Earth's crust, crustal components such a ...

land
) and taxation.
Technology Technology ("science of craft", from Greek#REDIRECT Greek Greek may refer to: Greece Anything of, from, or related to Greece Greece ( el, Ελλάδα, , ), officially the Hellenic Republic, is a country located in Southeast Europe. I ...

Technology
can be viewed either as a form of
fixed capital In accounting Accounting or Accountancy is the measurement, processing, and communication of financial and non financial information about economic entity, economic entities such as businesses and corporations. Accounting, which has been call ...
(e.g. an
industrial plant Physical plant, mechanical plant or industrial plant (and where context is given, often just plant) refers to the necessary infrastructure used in operation and maintenance of a given facility. The operation of these facilities, or the department ...
) or
circulating capitalCirculating capital includes intermediate goods and operating expenses, i.e., short-lived items that are used in production and used up in the process of creating other goods or services. Mark Blaug, 2008. "circulating capital," ''The New Palgrave ...
(e.g.
intermediate goods Intermediate goods, producer goods or semi-finished products are goods In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (econo ...
). In the mathematical model for the cost of production, the short-run total cost is equal to
fixed cost In accounting Accounting or Accountancy is the measurement ' Measurement is the number, numerical quantification (science), quantification of the variable and attribute (research), attributes of an object or event, which can be used to compa ...

fixed cost
plus total
variable cost 240px, Decomposing Total Costs as Fixed Costs plus Variable Costs. The quantity of output is measured on the horizontal axis.">Fixed_Costs.html" ;"title="Total Costs as Fixed Costs">Total Costs as Fixed Costs plus Variable Costs. The quantity of ou ...
. The fixed cost refers to the cost that is incurred regardless of how much the firm produces. The variable cost is a function of the quantity of an object being produced. The cost function can be used to characterize production through the duality theory in economics, developed mainly by Ronald Shephard (1953, 1970) and other scholars (Sickles & Zelenyuk, 2019, ch.2).


Opportunity cost

Opportunity cost is closely related to the idea of time constraints. One can do only one thing at a time, which means that, inevitably, one is always giving up other things. The opportunity cost of any activity is the value of the next-best alternative thing one may have done instead. Opportunity cost depends only on the value of the next-best alternative. It doesn't matter whether one has five alternatives or 5,000. Opportunity costs can tell when ''not'' to do something as well as when to do something. For example, one may like waffles, but like chocolate even more. If someone offers only waffles, one would take it. But if offered waffles or chocolate, one would take the chocolate. The opportunity cost of eating waffles is sacrificing the chance to eat chocolate. Because the cost of not eating the chocolate is higher than the benefits of eating the waffles, it makes no sense to choose waffles. Of course, if one chooses chocolate, they are still faced with the opportunity cost of giving up having waffles. But one is willing to do that because the waffle's opportunity cost is lower than the benefits of the chocolate. Opportunity costs are unavoidable constraints on behaviour because one has to decide what's best and give up the next-best alternative.


Price Theory

Price theory is a field of
economics Economics () is a social science that studies the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods and services. Economics focuses on the behaviour and interact ...

economics
that uses the
supply and demand In microeconomics Microeconomics is a branch of that studies the behavior of individuals and in making decisions regarding the allocation of and the interactions among these individuals and firms. Microeconomics focuses on the study ...

supply and demand
framework to explain and predict human behavior. It is associated with the
Chicago School of Economics The Chicago school of economics is a neoclassical Neoclassical or neo-classical may refer to: * Neoclassicism or New Classicism, any of a number of movements in the fine arts, literature, theatre, music, language, and architecture beginning ...
. Price theory studies
competitive equilibriumCompetitive equilibrium (also called: Walrasian equilibrium) is a concept of economic equilibrium introduced by Kenneth Arrow and Gérard Debreu in 1951 appropriate for the analysis of commodity markets with flexible prices and many traders, and ...
in
markets Market may refer to: *Market (economics) *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an island shared by Finland and Sweden Art, entertainment, and media Films *Market (1965 film), ''Market'' (1965 ...
to yield testable hypotheses that can be rejected. Price theory is not the same as microeconomics. Strategic behavior, such as the interactions among sellers in a market where they are few, is a significant part of microeconomics but is not emphasized in price theory. Price theorists focus on competition believing it to be a reasonable description of most markets that leaves room to study additional aspects of tastes and technology. As a result, price theory tends to use less
game theory Game theory is the study of mathematical model A mathematical model is a description of a system A system is a group of Interaction, interacting or interrelated elements that act according to a set of rules to form a unified whole. ...
than microeconomics does. Price theory focuses on how agents respond to prices, but its framework can be applied to a wide variety of socioeconomic issues that might not seem to involve prices at first glance. Price theorists have influenced several other fields including developing
public choice theory Public choice, or public choice theory, is "the use of economic An economy (; ) is an area of the production Production may be: Economics and business * Production (economics) * Production, the act of manufacturing goods * Production, in t ...
and
law and economics Law and economics or economic analysis of law is the application of economic An economy (; ) is an area of the production Production may be: Economics and business * Production (economics) * Production, the act of manufacturing goods * Prod ...
. Price theory has been applied to issues previously thought of as outside the purview of economics such as criminal justice, marriage, and addiction.


Microeconomic models


Supply and demand

Supply and demand is an
economic model In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...

economic model
of
price determination Pricing is the process whereby a business sets the price A price is the (usually not negative) quantity of payment or compensation given by one party to another in return for one unit of goods or services. A price is influenced by ...
in a perfectly competitive
market Market may refer to: *Market (economics) *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an island shared by Finland and Sweden Art, entertainment, and media Films *Market (1965 film), ''Market'' (1965 ...
. It concludes that in a perfectly competitive market with no
externalities In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...

externalities
, per unit taxes, or
price controls Price controls are restrictions set in place and enforced by governments, on the prices that can be charged for goods and services in a market. The intent behind implementing such controls can stem from the desire to maintain affordability of goods ...
, the
unit price A product's average price is the result of dividing the product's total sales revenue by the total units sold. When one product is sold in variants, such as bottle sizes, managers must define "comparable" units. Average prices can be calculated by ...
for a particular
good 125px, In many Western religions, angels are considered to be good beings and are contrasted with devils who are considered evil In most contexts, the concept of good denotes the conduct that should be preferred when posed with a choice betwee ...
is the price at which the quantity demanded by consumers equals the quantity supplied by producers. This price results in a stable
economic equilibrium In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...
. Prices and quantities have been described as the most directly observable attributes of goods produced and exchanged in a
market economy A market economy is an economic system An economic system, or economic order, is a system A system is a group of interacting Interaction is a kind of action that occurs as two or more objects have an effect upon one another. The ide ...
. The theory of supply and demand is an organizing principle for explaining how prices coordinate the amounts produced and consumed. In microeconomics, it applies to price and output determination for a market with
perfect competition In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...
, which includes the condition of no buyers or sellers large enough to have price-setting
power Power typically refers to: * Power (physics) In physics, power is the amount of energy transferred or converted per unit time. In the International System of Units, the unit of power is the watt, equal to one joule per second. In older works, p ...
. For a given market of a
commodity In economics Economics () is a social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred to in botany Botany, also called , plant biology or phytology, is the science of plan ...
, demand is the relation of the quantity that all buyers would be prepared to purchase at each unit price of the good. Demand is often represented by a table or a graph showing price and quantity demanded (as in the figure). Demand theory describes individual consumers as rationally choosing the most preferred quantity of each good, given income, prices, tastes, etc. A term for this is "constrained utility maximization" (with income and
wealth Wealth is the abundance of valuable financial asset A financial asset is a non-physical asset whose value is derived from a contractual claim, such as deposit (finance), bank deposits, bond (finance), bonds, and participations in companies' sh ...
as the on demand). Here,
utility As a topic of economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within thos ...

utility
refers to the hypothesized relation of each individual consumer for ranking different commodity bundles as more or less preferred. The
law of demand In microeconomics Microeconomics is a branch of mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities worldwide, that are generally accepted by economists as a basis ...

law of demand
states that, in general, price and quantity demanded in a given market are inversely related. That is, the higher the price of a product, the less of it people would be prepared to buy (other things unchanged). As the price of a commodity falls, consumers move toward it from relatively more expensive goods (the
substitution effect In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods ...

substitution effect
). In addition,
purchasing power Purchasing power is the amount of goods and services that can be purchased with a unit of currency A currency, "in circulation", from la, currens, -entis, literally meaning "running" or "traversing" in the most specific sense is money Im ...
from the price decline increases ability to buy (the
income effect The theory of consumer choice is the branch of microeconomics Microeconomics is a branch of mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities worldwide, that ar ...

income effect
). Other factors can change demand; for example an increase in income will shift the demand curve for a
normal good In economics Economics () is a social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred to in botany Botany, also called , plant biology or phytology, is the science of plant ...
outward relative to the origin, as in the figure. All determinants are predominantly taken as constant factors of demand and supply. ''Supply'' is the relation between the price of a good and the quantity available for sale at that price. It may be represented as a table or graph relating price and quantity supplied. Producers, for example business firms, are hypothesized to be ''profit maximizers'', meaning that they attempt to produce and supply the amount of goods that will bring them the highest profit. Supply is typically represented as a function relating price and quantity, if other factors are unchanged. That is, the higher the price at which the good can be sold, the more of it producers will supply, as in the figure. The higher price makes it profitable to increase production. Just as on the demand side, the position of the supply can shift, say from a change in the price of a productive input or a technical improvement. The "Law of Supply" states that, in general, a rise in price leads to an expansion in supply and a fall in price leads to a contraction in supply. Here as well, the determinants of supply, such as price of substitutes, cost of production, technology applied and various factors of inputs of production are all taken to be constant for a specific time period of evaluation of supply.
Market equilibrium In economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within those societies ...
occurs where quantity supplied equals quantity demanded, the intersection of the supply and demand curves in the figure above. At a price below equilibrium, there is a shortage of quantity supplied compared to quantity demanded. This is posited to bid the price up. At a price above equilibrium, there is a surplus of quantity supplied compared to quantity demanded. This pushes the price down. The
model In general, a model is an informative representation of an object, person or system. The term originally denoted the plans of a building in late 16th-century English, and derived via French and Italian ultimately from Latin ''modulus'', a measure. ...
of supply and demand predicts that for given supply and demand curves, price and quantity will stabilize at the price that makes quantity supplied equal to quantity demanded. Similarly, demand-and-supply theory predicts a new price-quantity combination from a shift in demand (as to the figure), or in supply. For a given quantity of a consumer good, the point on the demand curve indicates the value, or
marginal utility In economics Economics () is a social science Social science is the Branches of science, branch of science devoted to the study of society, societies and the Social relation, relationships among individuals within those societies. ...
, to consumers for that unit. It measures what the consumer would be prepared to pay for that unit. The corresponding point on the supply curve measures
marginal cost In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods a ...

marginal cost
, the increase in total cost to the supplier for the corresponding unit of the good. The price in equilibrium is determined by supply and demand. In a perfectly competitive market, supply and demand equate marginal cost and marginal utility at equilibrium. On the supply side of the market, some factors of production are described as (relatively) ''variable'' in the
short runIn economics the long run is a theoretical concept in which all markets are in equilibrium, and all prices and quantities have fully adjusted and are in equilibrium. The long run contrasts with the short run, in which there are some constraints and ...
, which affects the cost of changing output levels. Their usage rates can be changed easily, such as electrical power, raw-material inputs, and over-time and temp work. Other inputs are relatively ''fixed'', such as plant and equipment and key personnel. In the
long runIn economics the long run is a theoretical concept in which all markets are in economic equilibrium, equilibrium, and all prices and quantities have fully adjusted and are in equilibrium. The long run contrasts with the short run, in which there are ...
, all inputs may be adjusted by
management Management (or managing) is the administration of an organization An organization, or organisation (Commonwealth English The use of the English language English is a West Germanic languages, West Germanic language first spok ...

management
. These distinctions translate to differences in the
elasticity Elasticity often refers to: *Elasticity (physics), continuum mechanics of bodies that deform reversibly under stress Elasticity may also refer to: Information technology * Elasticity (data store), the flexibility of the data model and the clu ...

elasticity
(responsiveness) of the supply curve in the short and long runs and corresponding differences in the price-quantity change from a shift on the supply or demand side of the market. Marginalist theory, such as above, describes the consumers as attempting to reach most-preferred positions, subject to
income In microeconomics Microeconomics is a branch of mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities worldwide, that are generally accepted by economists as a bas ...
and
wealth Wealth is the abundance of valuable financial asset A financial asset is a non-physical asset whose value is derived from a contractual claim, such as deposit (finance), bank deposits, bond (finance), bonds, and participations in companies' sh ...
constraints while producers attempt to maximize profits subject to their own constraints, including demand for goods produced, technology, and the price of inputs. For the consumer, that point comes where marginal utility of a good, net of price, reaches zero, leaving no net gain from further consumption increases. Analogously, the producer compares
marginal revenue Marginal revenue (or marginal benefit) is a central concept in microeconomics Microeconomics is a branch of mainstream economics Mainstream economics is the body of knowledge, theories, and models of economics, as taught by universities wor ...
(identical to price for the perfect competitor) against the
marginal cost In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods a ...

marginal cost
of a good, with ''marginal profit'' the difference. At the point where marginal profit reaches zero, further increases in production of the good stop. For movement to market equilibrium and for changes in equilibrium, price and quantity also change "at the margin": more-or-less of something, rather than necessarily all-or-nothing. Other applications of demand and supply include the
distribution of incomeIn economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods and ...
among the
factors of production In economics Economics () is the social science that studies how people interact with value; in particular, the Production (economics), production, distribution (economics), distribution, and Consumption (economics), consumption of goods a ...
, including labour and capital, through factor markets. In a competitive
labour market Labour economics seeks to understand the functioning and dynamics of the markets Market may refer to: *Market (economics) *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an island shared by Finlan ...
for example the quantity of labour employed and the price of labour (the wage rate) depends on the demand for labour (from employers for production) and supply of labour (from potential workers).
Labour economics Labour economics seeks to understand the functioning and dynamics of the markets Market may refer to: *Market (economics) *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an island shared by Finland ...
examines the interaction of workers and employers through such markets to explain patterns and changes of wages and other labour income, labour mobility, and (un)employment, productivity through human capital, and related public-policy issues. Demand-and-supply analysis is used to explain the behaviour of perfectly competitive markets, but as a standard of comparison it can be extended to any type of market. It can also be generalized to explain variables across the economy, for example, total output (estimated as real GDP) and the general price level, as studied in
macroeconomics Macroeconomics (from the Greek prefix ''makro-'' meaning "large" + ''economics'') is a branch of economics Economics () is a social science Social science is the branch A branch ( or , ) or tree branch (sometimes referred ...
. Tracing the qualitative economics, qualitative and quantitative effects of variables that change supply and demand, whether in the short or long run, is a standard exercise in applied economics. Economic theory may also specify conditions such that supply and demand through the market is an efficient mechanism for allocating resources.


Market structure

Market structure refers to features of a market, including the number of firms in the market, the distribution of market shares between them, product uniformity across firms, how easy it is for firms to enter and exit the market, and forms of competition in the market. A market structure can have several types of interacting market systems. Different forms of markets are a feature of capitalism and market socialism, with advocates of state socialism often criticizing markets and aiming to substitute or replace markets with varying degrees of government-directed economic planning. Competition acts as a regulatory mechanism for market systems, with government providing regulations where the market cannot be expected to regulate itself. Regulations help to mitigate Negative Externalities, negative externalities of goods and services when the private equilibrium of the market does not match the social equilibrium. One example of this is with regards to building codes, which if absent in a purely competition regulated market system, might result in several horrific injuries or deaths to be required before companies would begin improving structural safety, as consumers may at first not be as concerned or aware of safety issues to begin putting pressure on companies to provide them, and companies would be motivated not to provide proper safety features due to how it would cut into their profits. The concept of "market type" is different from the concept of "market structure". Nevertheless, it is worth noting here that there are a variety of Market (economics)#Types of markets, types of markets. The different market structures produce cost curves based on the type of structure present. The different curves are developed based on the costs of production, specifically the graph contains marginal cost, average total cost, average variable cost, average fixed cost, and marginal revenue, which is sometimes equal to the demand, average revenue, and price in a price-taking firm.


Perfect competition

Perfect competition is a situation in which numerous small firms producing identical products compete against each other in a given industry. Perfect competition leads to firms producing the socially optimal output level at the minimum possible cost per unit. Firms in perfect competition are "price takers" (they do not have enough market power to profitably increase the price of their goods or services). A good example would be that of digital marketplaces, such as eBay, on which many different sellers sell similar products to many different buyers. Consumers in a perfect competitive market have perfect knowledge about the products that are being sold in this market.


Imperfect competition

Imperfect competition is a type of market structure showing some but not all features of competitive markets.


Monopolistic competition

Monopolistic competition is a situation in which many firms with slightly different products compete. Production costs are above what may be achieved by perfectly competitive firms, but society benefits from the product differentiation. Examples of industries with market structures similar to monopolistic competition include restaurants, cereal, clothing, shoes, and service industries in large cities.


Monopoly

A monopoly is a market structure in which a market or industry is dominated by a single supplier of a particular good or service. Because monopolies have no competition, they tend to sell goods and services at a higher price and produce below the socially optimal output level. However, not all monopolies are a bad thing, especially in industries where multiple firms would result in more costs than benefits (i.e. natural monopoly, natural monopolies). * Natural monopoly: A monopoly in an industry where one producer can produce output at a lower cost than many small producers.


Oligopoly

An oligopoly is a market form, market structure in which a
market Market may refer to: *Market (economics) *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an island shared by Finland and Sweden Art, entertainment, and media Films *Market (1965 film), ''Market'' (1965 ...
or Industry (economics), industry is dominated by a small number of firms (oligopolists). Oligopolies can create the incentive for firms to engage in collusion and form cartels that reduce competition leading to higher prices for consumers and less overall market output. Alternatively, oligopolies can be fiercely competitive and engage in flamboyant advertising campaigns. * Duopoly: A special case of an oligopoly, with only two firms. Game theory can elucidate behavior in duopolies and oligopolies.


Monopsony

A monopsony is a market where there is only one buyer and many sellers.


Bilateral monopoly

A bilateral monopoly is a market consisting of both a monopoly (a single seller) and a monopsony (a single buyer).


Oligopsony

An oligopsony is a market where there are a few buyers and many sellers.


Game theory

Game theory is a major method used in mathematical economics and business for economic model, modeling competing behaviors of interacting agent (economics), agents. The term "game" here implies the study of any strategic interaction between people. Applications include a wide array of economic phenomena and approaches, such as auctions, bargaining, Mergers and Acquisitions, mergers & acquisitions pricing, fair division, duopoly, duopolies, oligopolies, social network formation, agent-based computational economics, general equilibrium, mechanism design, and voting systems, and across such broad areas as experimental economics, Behavioral game theory, behavioral economics, information economics, industrial organization, and political economy.


Economics of information

Information economics is a branch of microeconomic theory that studies how information and information systems affect an economy and economic decisions. Information has special characteristics. It is easy to create but hard to trust. It is easy to spread but hard to control. It influences many decisions. These special characteristics (as compared with other types of goods) complicate many standard economic theories.• Beth Allen, 1990. "Information as an Economic Commodity," ''American Economic Review'', 80(2), pp
268
273.
  • Kenneth J. Arrow, 1999. "Information and the Organization of Industry," ch. 1, in Graciela Chichilnisky ''Markets, Information, and Uncertainty.'' Cambridge University Press, pp
20–21

   • _____, 1996. "The Economics of Information: An Exposition," ''Empirica'', 23(2), pp.&nbs
119
128.
   • _____, 1984. ''Collected Papers of Kenneth J. Arrow'', v. 4, ''The Economics of Information''
Description
and chapter-previe
links.
br />   • Jean-Jacques Laffont, 1989. ''The Economics of Uncertainty and Information'', MIT Press
Description
and chapter-previe
links
The economics of information has recently become of great interest to many - possibly due to the rise of information-based companies inside the technology industry.Varian H.R. (1987) Microeconomics. In: Palgrave Macmillan (eds) The New Palgrave Dictionary of Economics. Palgrave Macmillan, London. From a game theory approach, we can loosen the usual constraints that agents have complete information to further examine the consequences of having incomplete information. This gives rise to many results which are applicable to real life situations. For example, if one does loosen this assumption, then it is possible to scrutinize the actions of agents in situations of uncertainty. It is also possible to more fully understand the impacts – both positive and negative – of agents seeking out or acquiring information.


Applied

Applied economics, Applied microeconomics includes a range of specialized areas of study, many of which draw on methods from other fields. * Economic history examines the evolution of the economy and economic institutions, using methods and techniques from the fields of economics, history, geography, sociology, psychology, and political science. * Education economics examines the organization of education provision and its implication for efficiency and equity, including the effects of education on productivity. * Financial economics examines topics such as the structure of optimal portfolios, the rate of return to capital, econometric analysis of security returns, and corporate financial behavior. * Health economics examines the organization of health care systems, including the role of the health care workforce and health insurance programs. * Industrial organization examines topics such as the entry and exit of firms, innovation, and the role of trademarks. * Law and economics applies microeconomic principles to the selection and enforcement of competing legal regimes and their relative efficiencies. * Political economy examines the role of political institutions in determining policy outcomes. * Public economics examines the design of government tax and expenditure policies and economic effects of these policies (e.g., social insurance programs). * Urban economics, which examines the challenges faced by cities, such as sprawl, air and water pollution, traffic congestion, and poverty, draws on the fields of urban geography and sociology. * Labor economics examines primarily labor markets, but comprises a large range of public policy issues such as immigration, minimum wages, or inequality.


See also

* Economics * Macroeconomics *Critique of political economy


References


Further reading

* * * Bouman, John
Principles of Microeconomics – free fully comprehensive Principles of Microeconomics and Macroeconomics texts
Columbia, Maryland, 2011 * Colander, David. ''Microeconomics.'' McGraw-Hill Paperback, 7th Edition: 2008. * * Eaton, B. Curtis; Eaton, Diane F.; and Douglas W. Allen. ''Microeconomics''. Prentice Hall, 5th Edition: 2002. * Erickson, Gary M. (2009). “An Oligopoly Model of Dynamic Advertising Competition“. ''European Journal of Operational Research'' 197 (2009): 374-388. https://econpapers.repec.org/article/eeeejores/v_3a197_3ay_3a2009_3ai_3a1_3ap_3a374-388.htm * Robert H. Frank, Frank, Robert H.; ''Microeconomics and Behavior''. McGraw-Hill/Irwin, 6th Edition: 2006. * Friedman, Milton. ''Price Theory.'' Aldine Transaction: 1976 * Hagendorf, Klaus
Labour Values and the Theory of the Firm. Part I: The Competitive Firm. Paris: EURODOS; 2009.
* * Hicks, John R. ''Value and Capital''. Clarendon Press. [1939] 1946, 2nd ed. * Jack Hirshleifer, Hirshleifer, Jack., Glazer, Amihai, and David Hirshleifer, Hirshleifer, David, ''Price theory and applications: Decisions, markets, and information.'' Cambridge University Press, 7th Edition: 2005. * Jaffe, Sonia; Minton, Robert; Casey B. Mulligan, Mulligan, Casey B.; and Murphy, Kevin M.
Chicago Price Theory
Princeton University Press, 2019 * Jehle, Geoffrey A.; and Philip J. Reny. ''Advanced Microeconomic Theory.'' Addison Wesley Paperback, 2nd Edition: 2000. * Katz, Michael L.; and Harvey S. Rosen. ''Microeconomics''. McGraw-Hill/Irwin, 3rd Edition: 1997. * Kreps, David M. ''A Course in Microeconomic Theory''. Princeton University Press: 1990 * Landsburg, Steven. ''Price Theory and Applications''. South-Western College Pub, 5th Edition: 2001. * Mankiw, N. Gregory. ''Principles of Microeconomics''. South-Western Pub, 2nd Edition: 2000. * Andreu Mas-Colell, Mas-Colell, Andreu; Whinston, Michael D.; and Jerry R. Green. ''Microeconomic Theory''. Oxford University Press, US: 1995. * McGuigan, James R.; Moyer, R. Charles; and Frederick H. Harris. ''Managerial Economics: Applications, Strategy and Tactics''. South-Western Educational Publishing, 9th Edition: 2001. * Nicholson, Walter. ''Microeconomic Theory: Basic Principles and Extensions.'' South-Western College Pub, 8th Edition: 2001. * Jeffrey M. Perloff, Perloff, Jeffrey M. ''Microeconomics''. Pearson – Addison Wesley, 4th Edition: 2007. * Perloff, Jeffrey M. ''Microeconomics: Theory and Applications with Calculus''. Pearson – Addison Wesley, 1st Edition: 2007 * Pindyck, Robert S.; and Daniel L. Rubinfeld.'' Microeconomics.'' Prentice Hall, 7th Edition: 2008. * Ruffin, Roy J.; and Paul R. Gregory. ''Principles of Microeconomics''. Addison Wesley, 7th Edition: 2000. *Sickles, R., & Zelenyuk, V. (2019). Measurement of Productivity and Efficiency: Theory and Practice. Cambridge: Cambridge University Press. https://assets.cambridge.org/97811070/36161/frontmatter/9781107036161_frontmatter.pdf * Hal Varian, Varian, Hal R. (1987). "microeconomics," ''The New Palgrave: A Dictionary of Economics'', v. 3, pp. 461–63. * Varian, Hal R. ''Intermediate Microeconomics: A Modern Approach''. W. W. Norton & Company, 8th Edition: 2009. * Varian, Hal R. ''Microeconomic Analysis''. W. W. Norton & Company, 3rd Edition: 1992.


External links


X-Lab: A Collaborative Micro-Economics and Social Sciences Research Laboratory


* http://media.lanecc.edu/users/martinezp/201/MicroHistory.html – a brief history of microeconomics {{Authority control Microeconomics, Money