Polytechnic University of the Philippines College

of Social Sciences and Development Department of

Economics

INSTRUCTIONAL MATERIALS FOR

MICROECONOMICS

Compiled by

Melcah Pascua Monsura

Maria Vicenta Magpantay
 Table of Contents

Overview about Microeconomics

Chapter 1 Introduction

1.1 Definition
1.2 Methodologies
1.3 Economic Goals
1.4 Production Possibilities Model
1.5 Optimal Allocation
Exercise 1

REFERENCES

2
OVERVIEW

Microeconomics studies the behavior of the individuals and the firms. This topic will be divided
into two parts, (a) utility maximization of the individuals and (b) profit maximization and loss
minimization of the firms. The cardinal approach and ordinal approach are the two approaches used to
describe the utility maximization of the individuals. Profit maximization and loss minimization will be
discussed using the market structures in perfect market and imperfect markets. Pure competition is
considered as the perfect market while imperfect markets are composed of monopoly, monopolistic
competition, and oligopoly.

There are some discussions included as introduction in this course. These topics are needed to
explain the two main subjects of microeconomics. This course will start by discussing the introduction of
economics including its definition, fundamentals, methodologies, and economic goals. These topics are
crucial to discuss the ideas of scarcity and opportunity cost under production possibility curve and
identifying the allocative efficiency using marginal benefit (MB) and marginal cost (MC) analysis. The
ideas from these topics will be used in analyzing the behavior of the firms regarding profit maximization
and loss minimization.

Market will also be discussed including demand, supply, market equilibrium and
elasticities. Subjects under elasticity are price elasticity of demand and supply, cross elasticity of demand,
and income elasticity of demand. The demand side of the market has the big contribution in terms of
explaining the consumer’s theory of preference on utility maximization of the individuals. While all the
areas under this topic were needed to further describe the decisions of the firms. Lastly, when market
failure happens in terms of public goods, externalities, and asymmetric information the government will
intervene to efficiency to the public.
CHAPTER 1: Introduction of Economics1

Learning Objectives: This chapter reviews and discusses the introduction of basic economics concepts to
connect its ideas to microeconomics. After this chapter, the readers will be able to recognize
scarcity as an economic phenomenon that causes economic problems, exemplify the different
approaches in the study of microeconomics, and conceptualize the welfare concept.

1.1 Definition

Economics is a social science that deals with the efficient allocation of scarce resources to satisfy
unlimited human wants and needs. Efficient allocation of scarce resources means proper allocation of the
limited resources. Wants and needs are two different ideas. Generally, an individual can live without wants
but he or she cannot live without needs.

Resources are classified as capital, land, labor, and entrepreneurship. Land resources include
natural resources such as land itself, mineral deposits, water, air, climate, and wildlife. Labor resources
refer to the physical and mental capacity of man to work in order to produce goods and services. Capital
resources, on the other hand, include man-made goods that produce other goods like buildings, tools,
equipment, and machineries as well as improvements on land that increase the productive capacity
to produce other goods and services. Lastly, entrepreneurship involves human resources that
perform the functions of organizing, managing, and assembling the other factors of production and making
business policy decisions. The entrepreneur is a risk-taker and an innovator.

There are two major areas in the study of economics. Macroeconomics considers the aggregate
performance of all markets in the market system and is concerned with the choices made by the large
subsectors of the economy—the household sector, which includes all consumers; the business
sector, which includes all firms; and the government sector, which includes all government agencies,
and the foreign sector which include activities related to export and import of goods, and the flow of
capital between the domestic economy and rest of the world

Microeconomics examines the factors that influence individual economic choices and how the
choices of various decision makers (individual consumers, firm or industry, and government agency) are
coordinated by markets.

1.2 Methodologies

There are six (6) well-known methodologies in understanding economics. First, it uses scientific
method to build economic theories since economics is a social science and considered as a science of
scarcity. This includes steps such as identify the problem, gather information and data, formulate
hypothesis, testing the hypothesis through experimentation and observation, and arriving at conclusion.
Primary data from surveys and interviews and secondary data from books, articles and other sources are
the two types of data gathered to support the analysis.
This method is also known as theoretical economics. It is a process of making economic theories
using the facts and the data available. Second methodology is known as the policy economics. It is a
process of making economic policies or laws using the economic theories.

1
The diagrams and tables used in this Chapter 1 were collected from McConnel, C. & Brue, S. (2008). Economics:
Principles, Problems, and Policies. 17th edition, McGraw Hill-Irwin.
 The third methodology is normative economics which is used when someone considers
his/her value judgment to answer “question what should be done” or “what ought to be”. This methodology
belongs to policy economics because it uses the policies or laws which is considered as a value judgment
to the answer the question “what should be done”. On the other hand, taking out the value judgment to
answer the question “what is” pertains to the fourth methodology which is positive economics. This
belongs to theoretical economics because it uses the facts and data to answer the answer the question “what
is the problem looks like”.

Understanding economics also considers the fifth and sixth methodologies, which are inductive
reasoning and deductive reasoning. When someone is analyzing the problem from a particular to general,
he or she is using the inductive reasoning while when an individual analyzes things from general to specific,
he or she considered deductive reasoning.

1.3 Economic Goals

There are eight (8) economic goals which every country wants to achieve. These can be
summarized into an acronym PFB & 5 E’s.

P F B & 5 E’s
Price Full Balance of 1. Economic Growth
Level Employment Payments 2. Economic Freedom
Stability 3. Economic Security
4. Economic Efficiency
5. Equitable Distribution of
Income

1. Price Level Stability. The economy is avoiding having an upswing of the general price which is
called inflation and downswing of the general price which is called deflation.
2. Full Employment. There should be suitable jobs for those people who are willing and able to work.
3. Balance of Trade. Equal number of exports and imports.
4. Economic Growth. The increase capacity of the economy to produce goods and services. It
promotes higher standard of living. This can be measured when there is an increase in real Gross
Domestic Product (GDP).
5. Economic Freedom. The economic actors in the economy can do their work freely.
6. Economic Security. This ensures that the people who cannot earn even a minimal income can
survive in everyday needs.
7. Economic Efficiency. All the available owned resources were used at the maximum level
to satisfy the needs and wants of the economy.
8. Equitable Distribution of Income. It avoids that there is a group of people who are experiencing
abundance and a group of people who are experiencing poverty. There is no rich and no poor.

1.4 Production Possibilities Model

There are two fundamentals of economics namely, economic resources and economic wants. Based
on the definition of economics, economic resources are limited while economic wants are unlimited.
Economic resources include labor, entrepreneurial ability, land and capital.
 Labor includes all physical and mental abilities. Although entrepreneurial abilities are part of
labor, these are considered special skills which means that not all individuals have this kind of abilities.
Entrepreneurs have the capability to combine all the resources to be productive. Land includes natural
resources like mineral deposits, forests, raw materials, and others. Capital goods are used to produce
another good. These are consumer goods that are ready for consumption. Money is not considered as
capital on the production side because it cannot produce consumer good.

Consider a Production Possibilities Table below which represents the possible production using
the available resources given the following assumptions: (1) Full Employment, (2) Productive
Efficiency, (3) Fixed Resources, (4) Fixed Technology and (5) Two Goods (consumer good and capital
good in thousands).
Alternatives
Goods
A B C D E
Machines 10 9 7 4 0
Burgers 0 1 2 3 4

Machines are considered as the produced capital goods while the burgers are the consumer goods.
The alternatives are the possible combinations of the two goods that can be produced. Alternatives A and
E show that one good is 0 or no production. All the available resources were allotted to produce 10
machines while there is no production for consumer good. On the other hand, alternative E shows that all
the available resources were allotted to produce consumer goods only leaving capital good with no
production. The two alternatives are possible but were not chosen in a real production. Alternative A
reveals producing more in the future in expense of less now while alternative E produces more now in
expense of less in the future.

Alternatives A and E were not chosen in a real-world production because A shows no consumption
at present but having more consumption in the future. In a practical sense, an individual has no satisfaction
today but have to wait for the future production to be satisfied. Alternative E reveals that an individual is
satisfied today because of the present consumption but has no satisfaction in the future. These alternatives
are not practical to be chosen since the aim of economics is to make individuals satisfied today and
tomorrow.

The law of increasing opportunity cost is present in the table. The forgone opportunities or the
amount to be sacrificed in order to have another is called opportunity cost. As production of one good
increases, the amount you are giving up is also increasing.

You can produce from alternative A to E or from alternative E to A. Considering the first process,
alternative A shows that there are 10 machines and 0 burger. Moving to alternative B, 1 unit of machine
was sacrificed just to have another unit of burger. From B to C, 2 units of machines were sacrificed to
have additional unit of burger. From C to D, 3 units of machines were sacrificed to have additional unit of
burger. Lastly, 4 units of machines were sacrificed to have additional unit burger from D to E. The
production of burger is increasing by one unit from 1 alternative to another alternative while the number of
machines given up is increasing (1, 2, 3, and 4). Therefore, the law of increasing opportunity cost is present
in machines.

Burger can also be the opportunity cost when second process is to be considered. From
E to A, as the number of machines produced increases the amount of burger giving up is only 1.
Although burger is the opportunity cost, the law of increasing opportunity cost is not present in burger.
Thus, burger is considered as the scarce good while machine is the abundant good. You are willing to give
up more amount of the abundant good just to have at least one unit of the scarce good.

Graphically, to show the economy’s capacity to produce, a production possibilities curve known
as the PPC will be derived using the production possibility table. Trade-off between two goods is also
visible in this diagram. Using the same assumptions, PPC is shown in the next graph.

Two important points are needed to be noted: first, all points along the curve are attainable and
efficient. Attainable because resources are available to produce the goods and efficient because all the
available resources were used at the maximum level to produce the two goods. Thus, PPC represents the
maximum combination of two goods that can be produced if resources are fully utilized.

Since the fixed resources were

fully employed at the PPC, point W is
unattainable and the same time inefficient.
Increase in resources and advance
Machines

technology could increase PPC that would

lead to an upward shift of the PPC to attain
point W. On the other hand, points inside the
PPC (orange shade) are attainable but
inefficient because the resources were not
used at the maximum level. There are excess
resources that could lead to lower production
of the two goods.

Burgers

1.5 Optimal Allocation

On the previous discussion, we consider productive efficiency in producing the two goods. Given
the produced number of consumer goods, we need to determine the number of goods to be produced to
satisfy the society by considering allocative efficiency. Allocative efficiency is the production of goods
and services in at least costly way most wanted by the society. The MB-MC analysis below will help to
answer this question.

Let us analyze the curves first, MC curve is an upward sloping curve which means that there is a
positive relationship between the production of burger and the additional cost of producing it. On the other
hand, MB curve is a downward sloping curve which means that as the number of burgers increases the
additional benefit from it decreases. This happens because of the Law of Diminishing Marginal Utility;
marginal utility means additional happiness or satisfaction. The additional happiness of an
individual from consuming additional same kind of good
 Marginal Benefit & Marginal Cost
decreases. Thus, MC curve represents the production side while the MB curve represents the consumption
side.

Burgers
The optimal allocation can be found when there is no deficiency and there is no excess, it means
that the consumption of the society is equal to the production. Based on the diagram, 2 thousand units of
burgers should be produced since MB and MC are equal to $10. Producing 1 thousand units of burger
could not satisfy the society because MB = 15 is greater than MC = 5. Higher MB means consumers want
to consume more because they are realizing higher satisfaction while lower MC means lower cost of
production because the number of produced burgers is low. This production decision is called under
allocation. On the other hand, producing
3 thousand units of burgers will lead to an overallocation of production because MB = 5 is less than MC =
15. Lower MB means the society is experiencing lower satisfaction from consuming more goods of the
same good while higher MC means more production.

Since 2 thousand units of burgers should be produced to satisfy the society, 7 thousand units of
machines should be produced for future production. Thus, from the Production Possibilities
Table, alternative C reveals allocative efficiency.
Exercise 1

I. Consider the production possibility table below.

Alternatives
Goods
M E L C A H
Machines 15 14 12 9 5 0
Burgers 0 1 2 3 4 5
Note: Machines and Burgers are in Thousands

1. Draw a Production Possibility Curve (PPC) using the table.

2. List the assumptions in analyzing PPC.
3. Explain the trade-off of the two commodities and the Law of Increasing Opportunity Cost.
4. Where are the attainable area and unattainable area? How to attain the unattainable area?
What will the economy achieve if this happens?

II. Underline the correct answer. (20 pts.)

There are three forms of economic resources or factors of production. 1. (Land, Capital) includes
natural resources that can be extracted from water, air, and land itself specifically, mineral deposits. 2.
(Labor, Entrepreneurial ability) pertains to the physical or mental talents that are utilized to produce goods
and services. Lastly, 3. (investment, capital) refers to the goods that are used for production of other goods
and services. However, these resources are 4. (unlimited, limited) in relation to our needs and wants.

Furthermore, 5. (luxury goods, basic goods) are not necessary for our basic existence while 6.
(luxury goods, basic goods) are goods which stay with us through a lifetime. In reality, when one of your
needs is satisfied, you still look for more. It is because needs and wants are 7. (unlimited, limited). Thus, 8.
(Economics, Macroeconomics) deals with the efficient allocation of scarce resources in producing goods
and services to satisfy human wants and needs.

Economists view things through a unique perspective. 9. (Marginal Analysis, Rational Behavior)
means that the same person may make different choices under different circumstances but
looking for opportunity to increase his utility. In addition, 10. (Marginal analysis, Rational Behavior)
involves in the comparison of additional benefits and additional costs. Lastly, 11. (Scarcity, Rational
Behavior) limits options and necessities that we make choices

Moreover, there are methodologies used in understanding economy. 12. (Applied Economics,
Descriptive Economics) is simply the compilation of data that describe phenomena or facts. Those data
from surveys and interviews are 13. (secondary data, primary data). While data taken form released book,
journal, or previously conducted researches are 14. (secondary data, primary data). When the facts are
brought into order and tied up to provide meaning, placed in correct relation, and generalized from them,
15. (economic theory, economic policy) arises. These are used to formulate policies in solving
economic problems, thus becoming 16. (theoretical economics, policy economics). Moreover, when we
consider someone’s value judgment about what economy should to be, we are using 17. (normative
economics, positive economics). But when we deal with facts and principles to remove our value
judgment, we are using 18. (normative economics, positive economics). On the other hand, economy can
also be explained through reasoning. The process of reasoning from the particular to the general is
called 19. (deductive reasoning, inductive reasoning. On the other hand, reasoning from general to
particular is called 20. (deductive reasoning, inductive reasoning).

III. Identify each of the following as either a positive or a normative statement. Write PS if the statement
is a Positive Statement and NS if the statement is a Normative Statement before the number.

1. The government should provide basic healthcare to all citizens.

2. Government-provided universal healthcare increases public expenditures.

3. Other things held constant, an increase in price reduces the quantity demanded.

4. The government should give ABS-CBN a franchise to continue its operation.

5. GDP posts 6.4% growth in the 4the quarter of 2019.

REFERENCES

McConnel, C. & Brue, S. (2008). Economics: Principles, Problems, and Policies. 17the Edition,
McGraw Hill-Irwin.

McConnel, C. Brue, S. & Flynn, S. (2012). Microeconomics: Principles, Problems, and Policies.
19the Edition, McGraw Hill-Irwin.

McConnel, C. Flynn, S., Brue, S. & Grant (2012). Microeconomics. 2Nd Brief Edition, McGraw Hill-
Irwin.

Nicholson, W. (2002). Microeconomic Theory: Basic Principles and Extensions. 8th Edition.
Southwestern Publishing.

Pin Dyck, R. & Rubin Feld, D. (2005). Microeconomics. 6the Edition, Prentice Hall.

Schiller, B. (2003). The Microeconomy Today. 9th Edition. New York: McGraw-Hill/Irwin.

Slaving, S. (2006). Microeconomics. 7th Edition. Burr Ridge: Illinois: McGraw-Hill/Irwin.

10