UNIT -1, LAW OF EQUI – MARGINAL UTILITY

Illustration 1:
we have shown marginal utility schedule of X and Y from the different units consumed. Let us also assume that prices of X and Y
are Rs. 4 and Rs. 5, respectively. Find the combination where the consumer maximizes utility if he has a budget of 35

Solution: This condition for a consumer to maximize utility is usually written in the following form:
MUx/Px = MUy/Px.
Calculate Mux/Px and MUy/Py for each row of units consumed.

The combinations which satisfy the criteria are:

A. 1 unit of X and 2 units of Y
So: 1*Px + 2*Py = 4+10 = 14
This is less than the budget of 35
B. 5 units of X and 3 units of Y
So: 5*Px + 3*Py = 20+15 = 35
Here the total spending is equal to the budget. Hence the answer is 5 units of X and
3 units of Y
 UNIT – 2 ELASTICITY OF DEMAND AND SUPPLY

Price Elasticity of Demand Problems: ( BASED ON PERCENTAGE METHOD FORMULA)

Problem 1: Calculate the price elasticity of demand when the price of a product increases by 10%, and the quantity
demanded decreases by 20%.
Solution: Price Elasticity of Demand (PED) is calculated using the formula:

PED = % Change in Quantity Demanded

% Change in Price
In this case, the % change in quantity demanded is -20% (decrease), and the % change in price is 10% (increase).
PED=−20% =−2
10%
So, the price elasticity of demand is -2, indicating that the demand is elastic.

Problem 2: A company is considering raising the price of its product by 5%. If its current PED is -0.75, what will
happen to total revenue?

Solution: To determine the effect on total revenue, you can use the following rule:
•If PED is greater than 1 (elastic demand), an increase in price leads to a decrease in total revenue.
•If PED is less than 1 (inelastic demand), an increase in price leads to an increase in total revenue.

In this case, PED is -0.75 (< 1), so an increase in price will lead to an increase in total revenue.
Income Elasticity of Demand Problems:
Problem 3: Calculate the income elasticity of demand when the quantity demanded of a luxury good increases by
15% in response to a 10% increase in consumer income.
Solution: Income Elasticity of Demand (YED) is calculated using the formula:
YED = % Change in Quantity Demanded
% Change in Income
In this case, the % change in quantity demanded is 15% (increase), and the % change in income is 10% (increase).
YED = 15% = 1.5
10%
So, the income elasticity of demand is 1.5, indicating that the good is a luxury item since YED > 1.
Greater than 1 (normal good, income elastic) Positive and less than 1 (normal good, income inelastic)
Negative (inferior good)
Cross Elasticity of Demand and Supply Problems:
Problem 4: Calculate the cross elasticity of demand between two substitute products when the price of product A increa
by 8%, and the quantity demanded for product B increases by 6%.
Solution: Cross Elasticity of Demand (XED) is calculated using the formula:
XED = % Change in Quantity Demanded of B = 6%
% Change in Price of A 8% =0.75

So, the cross elasticity of demand between these two substitute products is 0.75, indicating a positive
relationship and that they are substitutes. These problems and solutions should help you understand and apply the
concepts of price elasticity of demand, income elasticity of demand, and cross elasticity of demand and supply.
The Cross elasticity of Demand can be Positive or Negative. It is positive for a Substitute and
Negative for a Complement.
 UNIT – 3, BUDGET LINE EQUATION
The budget line equation is a fundamental concept that helps you understand the combinations of two goods or
services that a consumer can afford given their income and the prices of those goods. The equation is typically
represented as: Px​⋅X+Py​⋅Y=I Where:

•Px​is the price of good X. Py​is the price of good Y.

•X is the quantity of good X. Y is the quantity of good Y. I is the consumer's income.

ILLUSTRATION : 1 Suppose Sarah has an income of $500 per month, and she spends her income on two
goods: pizzas (X) and burgers (Y). The prices of these goods are $10 per pizza and $5 per burger.

We want to calculate the combinations of pizzas and burgers Sarah can afford while staying within her
budget. The budget line equation is: 10X+5Y=500 Now, let's find a few combinations:

Combination 1:
Let's say Sarah spends all her income on pizzas (X). So, Y = 0.
Plugging this into the equation:
10X+5(0)=500
Solving for X:
10X=500
X=500/10
X=50
So, Sarah can afford to buy 50 pizzas if she spends all her income on pizzas.
Combination 2:

Now, let's consider a scenario where she spends all her income on burgers (Y).
So, X = 0. Plugging this into the equation: 10(0)+5Y=500
Solving for Y: 5Y=500
Y=500/5
Y=100
So, Sarah can afford to buy 100 burgers if she spends all her income on burgers.

Combination 3:
Now, let's find a combination where she divides her budget between pizzas and burgers.
Let's assume she buys 20 pizzas (X) and some quantity of burgers (Y).
We can set up the equation: 10(20)+5Y=500
Solving for Y: 200+5Y=500
5Y=500−200
5Y=300
Y=300/5
Y=60
So, if Sarah buys 20 pizzas and 60 burgers, she will spend her entire budget of $500.
These are just a few examples of the combinations Sarah can afford with her income and the prices of pizzas and
burgers. The budget line equation helps us visualize and understand how different prices and incomes affect a
consumer's purchasing options.
ILLUSTRATION 2: Clothing Shopping

Suppose Emma has a monthly income of $800. She spends her income on two types of clothing items:
jeans (X) and t-shirts (Y). The price of a pair of jeans is $40, and the price of a t-shirt is $20.

The budget line equation is: 40X+20Y=800

Now, let's find a few combinations:

•If Emma spends all her income on jeans (X), she can buy 800/40=20 pairs of jeans.
•If she spends all her income on t-shirts (Y), she can buy 800/20=40 t-shirts.
•If she decides to buy 10 pairs of jeans and 20 t-shirts,
she spends 40X10+20X20=400+400=800, which exhausts her budget.
Example 2: Vacation Planning

Tom is planning a vacation with a budget of $2,000. He is considering spending his money on two activities:
sightseeing tours (X) and dining out at restaurants (Y). The cost of a sightseeing tour is $100, and dining out at a
restaurant costs $50 per meal.

The budget line equation is: 100X+50Y=2000

•If Tom spends all his budget on sightseeing tours (X), he can go on 2000/100=20 tours.
•If he spends all his budget on dining out (Y), he can have 2000/50=40 meals at restaurants.
•If Tom chooses to go on 10 sightseeing tours and dine out 20 times,
he spends 100X10+50X20=1000+1000=2000, which fits within his budget.
 Consumer surplus

Example 1: Single Price Point

Suppose the market price of a concert ticket is $100, and you are willing to pay up to $150 for it. Calculate
your consumer surplus.
Consumer Surplus (CS) = Maximum Willingness to Pay (WTP) - Actual Price, CS = $150 - $100 CS = $50
In this case, your consumer surplus is $50 because you are getting $50 worth of additional value from the concert
ticket.
Example 2: Multiple Price Points
Imagine you're buying books, and the price varies for each book. You are willing to pay the following
amounts for three different books:
•Book A: Your WTP is $30, but you buy it for $20.
•Book B: Your WTP is $40, but you buy it for $35.
•Book C: Your WTP is $25, and you buy it for $30.

To calculate your total consumer surplus, find the surplus for each book and then sum them up.
CS for Book A = $30 (WTP) - $20 (Price) = $10 CS for Book B = $40 (WTP) - $35 (Price) = $5
CS for Book C = $25 (WTP) - $30 (Price) = -$5 (negative because you paid more than your WTP)
Total Consumer Surplus = CS for Book A + CS for Book B + CS for Book C
Total Consumer Surplus = $10 + $5 - $5 = $10
So, your total consumer surplus for these three books is $10.
Example 3: Market Demand Curve

Consider a market where the demand curve for a product is given by:
Demand: Q = 100 - 2P

Where Q is the quantity demanded, and P is the price. If the market price is $30, calculate the total consumer surplus.
First, find the quantity demanded at a price of $30:
Q = 100 - 2(30)
Q = 100 - 60
Q = 40

Now, calculate the area of the triangle formed by the demand curve:
Consumer Surplus (CS) = (1/2) * quantity(i.e. base) * price(i.e. Height )
CS = (1/2) * (40) * (30)
CS = 600

So, the total consumer surplus in this market at a price of $30 is $600.
 PRODUCER SURPLUS CALCULATION
Total revenue - marginal cost = producer surplus
Producer Surplus=1/2​×(P (Market Price)−MC (Minimum Acceptable Price))×Qs (Quantity Supplied)
Where:
•P (Market Price) is the price at which the goods are sold.
•MC (Minimum Acceptable Price) is the minimum price at which producers are willing to supply the goods, often
representing the cost of production.
•Qs (Quantity Supplied) is the quantity of the good that producers are willing to supply at the market price.
This formula calculates the area between the supply curve and the market price up to the quantity supplied, which
represents the producer surplus.
Example Problem: Suppose a producer sells widgets in a competitive market. The supply curve for widgets is
given by the equation Qs=2P−10, where Qs is the quantity supplied and P is the price. The market price for widgets
is $30. Calculate the producer surplus.

Solution:
1.Understand the Market: We have the supply curve Qs=2P−10, which tells us how many widgets the producer is
willing to supply at different prices.
2.Determine the Market Price: The market price (P) is given as $30.
3.Identify the Quantity Supplied: To find the quantity supplied at a price of $30, we'll plug this price into the
supply curve:
Qs=2(30)−10 ,
Qs=60−10
Qs=50 So, the quantity supplied is 50 widgets.
Calculate Producer Surplus: Now, use the formula for producer surplus:
Producer Surplus=1/2​×(P−MC)×Qs
•P (Market Price) = $30 (given)
•To find the Minimum Acceptable Price (MC), we need to solve for P when Qs=0 (i.e., when the
producer is willing to supply nothing, indicating their minimum acceptable price):
0=2P−10
2P=10
P=5
So, the Minimum Acceptable Price (MC) is $5.
Now, plug these values into the formula:
Producer Surplus=21​×(30−5)×50
Producer Surplus=21​×25×50
Producer Surplus=21​×1250
Producer Surplus=625

So, in this example, the producer surplus is $625. This represents the benefit that the
producer receives from selling 50 widgets at a market price of $30, which is $625 above
their minimum acceptable price of $5 per widget.
Example Problem: Suppose the supply curve for a product is given by Qs = 5P - 10, where Qs is the quantity
supplied, and P is the price. The market price for this product is $20. Calculate the producer surplus.

Solution:
1.Understand the Market: We have the supply curve Qs = 5P - 10, which represents the quantity producers are
willing to supply at different prices.
2.Determine the Market Price: The market price is given as $20.
3.Identify the Quantity Supplied: To find the quantity supplied at a price of $20, plug in P = 20 into the supply curve:
Qs = 5(20) - 10
Qs = 100 - 10
Qs = 90 So, the quantity supplied is 90 units.

1.Calculate Producer Surplus: Now, use the formula for producer surplus:
2.Producer Surplus = 1/2 (0.5) x (Market Price - Minimum Acceptable Price) x Quantity Supplied
Market Price = $20 (given)
To find the Minimum Acceptable Price, set the supply equation equal to zero and solve for P:
0 = 5P – 10, 5P = 10, P = 2
3.The minimum acceptable price (cost of production) is $2.
4.Now, plug these values into the formula:
5.Producer Surplus = 0.5 x ($20 - $2) x 90, Producer Surplus = 0.5 x $18 x 90, Producer Surplus = $9 x 90
Producer Surplus = $810
So, in this example, the producer surplus is $810. This represents the benefit that producers receive from selling 90
units of the product at a price of $20, which is $810 above their minimum acceptable price.
Problem: Cost Calculation for a Manufacturing Firm
Suppose a manufacturing firm produces widgets, and the following cost information is available:
•Fixed Cost (FC): $2,000
•Variable Cost per unit (VC): $20
•Quantity of widgets produced (Q): 100 units
Let's calculate TC, AC, and MC for different quantities of widgets produced.

Quantity Fixed Cost Variable Total Cost Average Marginal

(Q) (FC) Cost (VC) (TC) Cost (AC) Cost (MC) Formula: TC = FC + VC
0 $2,000 $0 $2,000 - - Formula: AC = TC / Q
$20 * 10 = Formula: MC = ΔTC / ΔQ
10 $2,000 $2,200 $220 $20
$200
$20 * 20 =
20 $2,000 $2,400 $120 $20
$400
$20 * 30 =
30 $2,000 $2,600 $86.67 $20
$600
$20 * 40 =
40 $2,000 $2,800 $70 $20
$800
$20 * 50 =
50 $2,000 $3,000 $60 $20
$1,000
Unit 4: Analysis of Production, Costs and Revenues
1.If the total cost function of a company is TC = 162 + 3Q + 2Q 2, find the average cost at an output level of
6 units.

To find the average cost at an output level of 6 units, you can use the following formula:
Average Cost (AC) = Total Cost (TC) / Quantity (Q)
First, let's calculate the total cost at an output level of 6 units using the given total cost
function:
TC = 162 + 3Q + 2Q^2
TC at Q = 6: TC = 162 + 3(6) + 2(6^2)
TC = 162 + 18 + 72
TC = 252
Now, you can calculate the average cost at this output level:
AC = TC / Q
AC = 252 / 6
AC = 42
So, the average cost at an output level of 6 units is Rs. 42 per unit.
2.XYZ Electronics produces smartphones. The company incurs a fixed cost of Rs. 50,000
per month for its production facility and administrative expenses. The variable cost per unit
is Rs. 300, and the selling price per smartphone is Rs. 800. Calculate the Break-Even Point
(BEP) for the company.

To calculate the Break-Even Point (BEP) for XYZ Electronics, you can use the following
formula:
BEP (in units) = Fixed Costs / (Selling Price per Unit - Variable Cost per Unit)
Let's plug in the values:
Fixed Costs = Rs. 50,000
per month Selling Price per Unit = Rs. 800
Variable Cost per Unit = Rs. 300
Now, calculate the BEP:
BEP (in units) = 50,000 / (800 - 300) BEP (in units) = 50,000 / 500 BEP (in units) = 100
So, the Break-Even Point for XYZ Electronics is 100 units. This means that the company
needs to sell 100 smartphones to cover its fixed costs and start making a profit. If they sell
more than 100 units, they will generate a profit, and if they sell fewer than 100 units, they will
incur a loss.
calculate Average Revenue (AR), Marginal Revenue (MR), and Total Revenue (TR) in a tabulated column.
Suppose the demand function for a product is given by: P=120−4Q
We will calculate AR, MR, and TR for different quantities (Q) of the product.
The demand function provided is P=120−4Q. We will use this function to calculate the price for different quantities.

•Using the demand function,

we calculated the prices for
each quantity. For example,
Total Revenue Average Marginal
Quantity (Q) Price (P) (TR) Revenue (AR) Revenue (MR) when Q = 1, P = 120 - 4(1) =
116.
0 0 - - •TR is calculated as
TR = P * Q for each quantity.
1 116 116 116 116 •AR is calculated as
AR = TR / Q.
2 112 224 112 108 •MR is calculated as the
change in TR between
3 108 324 108 100 consecutive quantities. For
example, MR between Q=1
4 104 416 104 92 and Q=2 is ΔTR = TR(Q=2) -
TR(Q=1).
TR = P * Q. AR = TR / Q.
Unit 5: Market Structure
Unit 5.1: Perfect Competition

1. The long-run Average cost function in a firm in perfect competition is given as LAC = 1200 – 4Q + 2Q 2.
a. Find its profit maximization output in the long run.
b. Also verify whether LAC and LMC are equal at this level of output.

a. Find the Profit-Maximizing Output in the Long Run:

In perfect competition, firms maximize profit by producing the quantity where marginal cost (MC) equals
marginal revenue (MR) and equals the minimum point on the long-run average cost (LAC) curve. First, let's
calculate the long-run marginal cost (LMC) from the given LAC function.
Long-Run Marginal Cost (LMC): LMC is the derivative of the Long-Run Average Cost (LAC) function with
respect to quantity (Q). To find LMC, take the derivative of the LAC function:
LMC=dQd; (LAC)​=dQd; (1200−4Q+2Q2)​
LMC=−4+4Q
Now, set LMC equal to MR:
LMC=MR
In perfect competition, MR is equal to the market price (P) because the firm is a price taker. So, we have:
P=−4+4Q which is the equation to find the profit-maximizing output
But we also need to find the point where LMC equals the minimum point on the LAC curve:
To find the minimum point on LAC, we can find the derivative of LAC with respect to Q and set it equal to zero:
LAC=1200−4Q+2Q2
d(LAC)​=−4+4Q
Setting the derivative equal to zero:
−4+4Q=0
4Q=4
Q=1
Now that we have Q = 1 as the minimum point on the LAC curve, we can use this quantity in our profit-
maximizing output equation:
P=−4+4Q P=−4+4(1) P=0
So, the profit-maximizing output in the long run is Q=1 unit, and the price is P=0.

b. Verify Whether LAC and LMC Are Equal at This Level of Output:
To verify whether LAC and LMC are equal at Q=1, we can calculate LMC at this quantity and compare it to
LAC:
LMC=−4+4(1); LMC=0
At Q=1, LMC is equal to 0.
Now, let's calculate LAC at Q=1:
LAC=1200−4(1)+2(1)2 ; LAC=1200−4+2 ; LAC=1198
At Q=1, LAC is 1198.

Since LMC at Q=1 is equal to 0 and LAC at Q=1 is 1198, LAC and LMC are not equal at this level of output. In
the long run, the firm's LAC is higher than its LMC at the profit-maximizing quantity of 1 unit.
Unit 5: Market Structure
Unit 5.1: Perfect Competition ( for practice )

1. The long-run Average cost function in a firm in perfect competition is given as LAC = 1200 – 4Q +
2Q2.
a. Find its profit maximization output in the long run.
b. Also verify whether LAC and LMC are equal at this level of output.

2. The total cost function (monthly) of a perfect competitive firm is given as TC= 7500 + 150Q + 3Q 2.
Determine the price of the product if the industry is in long-run equilibrium.

3. Only Greens company sells green vegetables and has a total cost function as TC = 200 + 8Q +
2Q2. Assume the industry to be perfect competition.
a. If vegetables are charged at Rs. 20/kg, determine the optimal output level.
b. Find the profit at this output.
c. Being an expert, comment on whether the firm should continue operations or shut down.

4. A firm in the assembled PC market has the following Total Cost and Total revenue functions:
TC = 100 + 50Q + Q2 + Q3, and TR = 100Q, where Q is the level of output, Find:
a. The profit maximization level of output.
b. Levels of cost, revenue, and profit at this level of output.
 Simultaneous
rate of change
In mathematics, derivative is
defined as the method that
shows the simultaneous rate
of change. That means it is
used to represent the amount
by which the given function is
changing at a certain point.