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Important diagrams to remember

Chapter 2 Competitive markets: demand and supply

price of chocolate bars ($)

(a) Demand of consumer A

(b) Demand curve of consumer B

(c) Market demand

P ($)

P ($)

2
1

DA

2 4 6 8 10 12
quantity of chocolate
bars (per week)

demands
of other
consumers
in the
market

3
2
1

DB

2 4 6 8 10 12
quantity of chocolate
bars (per week)

Dm
2 4 6 8 10 12 14
quantity of chocolate bars
(thousands per week)

Figure 2.2 Market demand as the sum of individual demands

(a) A movement along the demand curve,


caused by a change in price, is called a
change in quantity demanded

(b) A shift of a demand curve, caused by a change in


a determinant of demand, is called a change in
demand

P
change in demand

P1

change in

quantity
demanded

decrease
in D

P2

D2
D

increase
in D

Q1

Q2

D3
Q

D1
Q

Figure 2.4 Movements along and shifts of the demand curve

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Economics for the IB Diploma

(a) Supply of rm A

(b) Supply of rm B

(c) Market supply

price of chocolate bars ($)

Important diagrams to remember

P$

P$

SA

5
4

+ 3

SB

supplies
of other
firms in
the market

= 3
2
1

200
400
600
quantity of chocolate
bars (per week)

Sm

200
400
600
quantity of chocolate
bars (per week)

2 4 6 8 10 12
quantity of chocolate
bars (thousands per week)

Figure 2.6 Market supply as the sum of individual supplies

(a) A movement along the supply curve,


caused by a change in price, is called a
change in quantity suppied

(b) A shift of the supply curve, caused by a


change in a determinant of supply, is called a
change in supply

S
B

P2

change in
quantity
supplied

P1

Q1

Q2

P1

S1

S3

Q3

decrease
in supply

increase
in supply

Q1

Q2

S2

price of chocolate bars ($)

Figure 2.8 Movements along and shifts of the supply curve

S
5

surplus

4
3

equilibrium
price

market equilibrium

2
shortage

D
equilibrium quantity

2
4
6
8 10 12
quantity of chocolate bars
(thousands per week)

14

Figure 2.9 Market equilibrium

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Important diagrams to remember


(a) Increase in demand
P

(b) Decrease in demand

initial
equilibrium

P2
a

final
equilibrium

P1

b
D2

P1

final
equilibrium

S
a
c

P3

D1

D1
0

Q1

initial
equilibrium

D3

Q2

Q3

Q1

Figure 2.10 Changes in demand and the new equilibrium price and quantity

(a) Increase in supply

(b) Decrease in supply

initial
equilibrium

final
equilibrium

S1

P
a

P1

P2

S2

S3

final
equilibrium

P1

S1

P3

D
0

Q2

Q1

initial
equilibrium

D
0

Q3

Q1

Figure 2.11 Changes in supply and the new equilibrium price and quantity

(a) Adjustment of price to increased demand


P

S
C

P2
P1

B
D2
D1

Q1

Q3

Figure 2.16 Price as a signal and incentive

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shortage =
excess demand

Q2 Q

P1

S = MC

P2
P3 consumer
surplus
Pe
producer
surplus
P4
P5

Allocative
efficiency:
at market
equilibrium
MB = MC and
social surplus
is maximum

D = MB

P6
0

Qa Qb

Qe

Figure 2.17 Consumer and producer surplus in a competitive market

Economics for the IB Diploma

Important diagrams to remember


Higher level topic
P ($)

P ($)

Qd = 14 2P

Qd = 19 2P

4 Qd = 10 2P

a
decreases

a
increases

Qd = 14 2P
Qd = 14 4P
absolute
value of b
increases

2 4 6 8 10 12 14 16 18 20
quantity of chocolate bars (thousands per week)

Figure 2.12 Shifts of the demand curve (changes in a in the


function Qd = a bP )

P ($)
5

0
2 4 6 8 10 12 14 16 18 20
quantity of chocolate bars (thousands per week)

Figure 2.13 Changing the slope of the demand curve (changes in b in the
function Qd = a bP )

P($)
Qs = 1 + 2P

Qs = 2 + 2P Qs = 6 + 2P

c
decreases

c
increases

0
2 4 6 8 10 12 14 16 18
quantity of chocolate bars (thousands per week)

Figure 2.14 Shifts of the supply curve (changes in c in the supply


function Qs = c + dP )

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Qs = 2 + 2P

value
of d
increases

Qs = 2 + 4P

0
2 4 6 8 10 12 14 16 18
quantity of chocolate bars (thousands per week)

Figure 2.15 Changing the slope of the supply curve (changes in d in the
function Qs = c + dP )

Economics for the IB Diploma

Important diagrams to remember

Chapter 3 Elasticities
Frequently encountered cases

(a) Price inelastic demand: 0 < PED <1

(b) Price elastic demand: 1 < PED <

P
5%

P2

P2
P1

10%
P1

D
0

Q2 Q1

5%

(d) Perfectly inelastic demand: PED = 0

(e) Pefectly elastic demand: PED =

P1

P2

5%

P1

10%

Special cases

(c) Unit elastic demand: PED = 1

Q2 Q1

Q2

Q1

Q1

5%
Figure 3.1 Demand curves and PED

P ($)
50
45
40
35
30
25
20
15
10
5
0

PED = 4
e
d

elastic portion of
demand curve

PED = 1
c

inelastic portion
of demand curve

b PED = 0.25
a

10 20 30 40 50 60 70 80 90 100
units of good A

Figure 3.2 Variability of PED along a straight-line demand curve

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Important diagrams to remember


(a) PED > 1 (elastic demand)

(c) PED = 1 (unit elastic demand)

PED > 1

P2
P1 C

PED > 1

PED = 1
PED < 1

PED = 1
P2
P1

A B
0

(b) PED < 1 (inelastic demand)

D
Q2 Q1

C
A

P2
C

PED < 1
B

P1
A

Q2 Q1 Q

Q2

Q1

Figure 3.5 PED and total revenue

(a) Primary commodities: supply shifts with inelastic demand

(b) Manufactured products: supply shifts with elastic demand

S2

S2
S1

P
P2

S3

P1

P3

P3
D

D
Q2 Q1 Q3

S3

P2

P1

S1

Q2

Q1

Q3

Figure 3.6 Price uctuations are larger for primary commodities because of low PED

(a) Inelastic demand

(b) Elastic demand

final
equilibrium

Pt

S2
tax
per
unit

S1

initial
equilibrium

P1

final
equilibrium

Pt
P1

Qt

tax
per
unit

S1

initial
equilibrium

D
0

S2

Qt

Figure 3.7 PED, indirect taxes and government tax revenue

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Economics for the IB Diploma

Important diagrams to remember


(a) Substitutes and positive XED : demand for Pepsi

S
YED < 0 0 < YED < 1 YED > 1
inferior
good

D2
D3 D1

D increases
as price of
Coca-Cola
increases

D2

D decreases as price
of Coca-Cola decreases

income
inelastic
demand,
normal
good

D1

income
elastic
demand,
normal
good

D3

D4
Q

Q
Figure 3.9 Demand curve shifts in response to increases in income for
different YEDs

(b) Complements and XED : demand for tennis balls

D2
D1
D3
D decreases as
price of tennis rackets increases
0

D increases
as price of
tennis rackets
decreases

Figure 3.8 Cross-price elasticities


Frequently encountered cases

(a) Price inelastic supply: PES < 1

(b) Price elastic supply: PES > 1

P
S
S

P2
10%

P2
10%

P1

Q1 Q2

P1

5%

Q2

15%

Special cases

(c) Unit elastic supply: PES = 1

(d) Perfectly inelastic supply: PES = 0

S1

Q1

(e) Perfectly elastic supply: PES =

S2
S3
0

P1

Q1

Figure 3.11 Supply curves and PES

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Important diagrams to remember


(a) Primary commodities: demand shifts with inelastic supply

P
P2
P1
P3

D3

D1

(b) Manufactured products: demand shifts with elastic supply

P
S

P2
P1
P3

D2
Q

D2
D3

D1
Q

Figure 3.13 Price uctuations are larger for primary commodities because of low PES

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Economics for the IB Diploma

Important diagrams to remember

Chapter 4 Government intervention


(a) Market outcomes: specic tax

(a) Specic tax


P

S2 (= S1 + tax)
tax per S
1
unit

government
revenue

Pc

S2 (= S1 + tax)
tax per
unit S1

P*
Pp

(b) Ad valorem tax

Q t Q*

D
Q

(b) Market outcomes: ad valorem tax


S2 (= S1 + tax)

tax per
unit

government
revenue

tax per
unit S

S1
Pc

tax per
unit

S2 = S1 + tax

P*
PP

Figure 4.1 Supply curve shifts due to indirect (excise) taxes

D
Qt Q*

Figure 4.2 Impacts of specic and ad valorem taxes on market outcomes

S1

P
Pp
P*

subsidy
per unit

S2 = S1 subsidy

Pc

D
0

Q*

Qsb

Figure 4.8 Impacts of subsidies on market outcomes

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Important diagrams to remember


P

Pe

welfare loss

a
Pe

Pc
shortage =
excess demand

Qs

Qe

Pc

Qd

Figure 4.12 Price ceiling (maximum price) and market outcomes

excess supply =
surplus

Pf

S = MC

b
d

c
e

D = MB
Qs

Qe

Qd

Figure 4.13 Welfare impacts of a price ceiling (maximum price)

excess supply =
surplus

Pf

Pe

D+
government
purchases

Pe
D

Qd

Qe

Qs

Figure 4.15 Price oor (minimum price) and market outcomes

D
0

Qd

Qe

Qs

Figure 4.16 An agricultural product market with price oor and


government purchases of the surplus

excess supply =
surplus

S = MC

a
Pf
b

c
e

Pe
d

f
D+
government
purchases

welfare
loss

D = MB
0

Qd

Qe

Qs

Figure 4.17 Welfare impacts of a price oor (minimum price) for


agricultural products and government purchases of the
surplus

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price of labour (wage)

Important diagrams to remember


P

excess supply of labour


= labour surplus
= unemployment

supply
of
labour

Wm
Wm

We

We

Qd
Qe Qs
quantity of labour

welfare loss

c
e

demand
for
labour

Q
0

Figure 4.19 Labour market with minimum wage (price oor)

Qd

Qe

Qs

Figure 4.20 Welfare impacts of a minimum wage

Higher level topics

(a) Inelastic supply

(a) Inelastic demand

tax per
unit

S1

Pc
P*

consumers
producers

Pp
D

Qt Q*

S2 = S1 + tax
tax per
unit

Pp
0

consumers
producers

Qt Q*

S2 = S1 + tax

S1
Pc

consumers

P*
Pp

producers

tax per
unit

consumers

Q*

Figure 4.6 Incidence of an indirect tax with inelastic and elastic demand

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S1

producers

D
Qt

(b) Elastic supply

(b) Elastic demand

Pc
P*

S1

tax per
unit

Pc
P*
Pp

S2 = S1 + tax

S2 = S1 + tax

Qt

Q*

D
Q

Figure 4.7 Incidence of an indirect tax with inelastic and elastic supply

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11

Important diagrams to remember


P

S1 = MC

tax per
unit

consumer
surplus
after the tax

S = MC
Pc

consumer
surplus

P*

S2 = S1 + tax

P*

government
revenue from
the tax

welfare loss = a + b

Pp

producer
surplus

producer
surplus
after the
tax

D = MB

D = MB
0

Q*

(a) Consumer and producer surplus in a competitive


free market: maximum social surplus

Q*

Qt

(b) Consumer and producer surplus with an indirect


(excise) tax: welfare loss

Figure 4.4 Effects of indirect taxes on consumer and producer surplus

(a) Consumer and producer surplus in a competitive


free market: maximum social surplus

(b) Consumer and producer surplus with a subsidy: welfare loss


P

P
S1 = MC
S = MC

P*

subsidy
per unit
S2 = S1 subsidy

Pp

gain in producer
P * surplus
gain in consumer
surplus
Pc

consumer
surplus
producer
surplus

welfare loss

D = MB
0

Q*

D = MB

Q
0

Q*

Qsb

Figure 4.10 Effects of subsidies on consumer and producer surplus

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Important diagrams to remember

Chapter 5 Market failure


P
S = MPC = MSC
Popt
D = MPB = MSB
0

Qopt
allocative efficiency
is achieved

Figure 5.1 Demand, supply and allocative efciency with


no externalities

(a) Welfare loss

MSC

external
cost

S = MPC

Popt

external
cost S = MPC

Popt
Pm

Pm

MSC

D = MPB = MSB
Q

Qopt Qm

Figure 5.2 Negative production externality

welfare loss
D = MPB = MSB

Qopt Qm

Figure 5.3 Welfare loss (deadweight loss) in a negative


production externality

MSC

S = MPC

Popt
Pm

Qopt Qm

D = MPB = MSB
Q

Figure 5.4 Government regulations to correct negative production


externalities

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Important diagrams to remember


(b) Effects on external costs of a tax on
emissions (carbon tax)

(a) Imposing an indirect tax on


output or on pollutants
MSC = MPC + tax
tax = external cost

P
Pc = Popt

(c) Tradable permits

P2

S = MPC

S = MPC
Pm

Pm

P1

Pp

Qopt Qm

D2
D1

D = MPB = MSC

D = MPB = MSB
0

S of tradable
permits

MSC1 = MPC + tax


MSC2

Qopt1 Qopt2 Qm

Q1

Figure 5.5 Market-based policies to correct negative production externalities

(a) Welfare loss

P
S = MPC = MSC

Pm
D = MPB

Popt

external
cost

welfare loss

Pm
Popt

external
cost

D = MPB

MSB
0

Qopt

Qm

MSB
Q

Qopt Qm

Figure 5.7 Welfare loss (deadweight loss) in a negative


consumption externality

Figure 5.6 Negative consumption externality

(a) Government regulations and advertising


P

(b) Market-based: imposing an indirect tax


P

external
cost

S = MPC = MSC

MPC + tax
tax =
external
cost

Pc

S = MPC = MSC

Pm

Pm
D1 = MPB

Popt

Pp

D = MPB

D2 = MSB
after demand decreases

Qopt

Qm

S = MPC = MSC

MSB
0

Qopt

Qm

Figure 5.8 Correcting negative consumption externalities

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Important diagrams to remember


(a) Welfare loss

S = MPC

external
benefits

Pm

P
S = MPC

MSC

external
benefits
MSC

Pm

Popt

Popt

Qm Qopt

D = MPB = MSB
Q

D = MPB = MSB
0

Figure 5.9 Positive production externality

(b) Granting a subsidy

S = MPC

Qm Qopt

Figure 5.10 Welfare loss (deadweight loss) in a positive


production externality

(a) Direct government provision

S = MPC

spillover
benefit

MSC

subsidy =
spillover benefit

Pm

Pm

Popt

Popt

welfare loss

Qm Qopt

D = MPB
Q

MSC

Qm Qopt

D = MPB
Q

Figure 5.11 Correcting positive production externalities

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Important diagrams to remember


P

S = MPC = MSC
Popt
Pm

MSB

welfare loss

S = MPC = MSC

external
benefit

Qm Qopt

D = MPB
Q

Popt
Pm

external
benefits

MSB
D = MPB
Q

Figure 5.12 Positive consumption externality

(a) Legislation or advertising

Qm Qopt

Figure 5.13 Welfare loss (deadweight loss) in a positive


consumption externality

P
S = MPC = MSC
Popt
D2 = MSB

Pm

external
benefit

D1 = MPB
0

Qm Qopt

(b) Direct government provision


P

S = MPC = MSC
S + government
provision

Pm
MSB

Pc
D = MPB
0

Qm

Qopt

(c) Granting a subsidy


P

S = MPC = MSC
subsidy =
external
benefit

MPC
subsidy

Pm
MSB

Pc
D = MPB
0

Qm

Qopt

Figure 5.14 Correcting positive consumption externalities

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16

Important diagrams to remember

Chapter 6 The theory of the rm I: Production, costs, revenues and prot


Higher level topics

units of output

(c) Total product curve

(c) Total cost, total variable cost and total


xed cost curves

TP

TC
0

units of output

TVC

costs

units of variable input (labour)

TFC
0

output, Q

AP
0

MC

MP
units of variable input (labour)

(d) Marginal and average product curves

ATC

units of output (AP, MP)

costs

Figure 6.1 Total, marginal and average products

AVC

AFC

AP
0

MP
units of variable input (labour)

output, Q

(d) Average cost and marginal cost curves


Figure 6.2 Total, average and marginal cost curves

costs (AVC, MC)

MC
AVC

output, Q

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Figure 6.3 Product curves and cost curves are mirror images due to the law of
diminishing returns

Economics for the IB Diploma

17

Important diagrams to remember


(c) Economies and diseconomies of scale

(b) Long-run average total cost curve in relation to


short-run average total cost curves

SRATC1
SRATC2

SRATCm

0
0

Q1 Q2

diseconomies
of scale

costs

economies
of scale

LRATC

costs

LRATC

output, Q

output, Q

Figure 6.5 The long-run average total cost curve

(b) Prot-maximising rm produces at Q2 and


makes zero economic prot: TR TC = 0
(it earns normal prot)

a
b

f
d

Q1 Q2 Q3

costs, revenues

costs, revenues

TC
TR

(c) The loss-minimising rm produces at Q2


(if it produces) and makes a loss = TC TR
= a b (negative economic prot since
TR < TC )

TC

TC

costs, revenues

(a) Prot-maximising rm produces at Q2 and


makes economic prot: TR TC = c d

TR
a

Q1 Q2 Q3 Q

TR
b

Q1

Q2 Q3

Figure 6.10 Prot maximisation using the total revenue and total cost approach when the rm has no control over price

(b) Loss minimisation

(a) Prot maximisation

TC,
TR

TC

TC,
TR

TC
b
TR
a

TR
0

max

Q1min

Figure 6.11 Prot maximisation using the total revenue and total cost approach when the rm has control over price

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Important diagrams to remember

Chapter 7 The theory of the rm II: Market structures


Higher level topic

P
S

Pe

Pe

D
0

(a) Individual rm
Figure 7.1

(b) Market/industry

Market (industry) demand and supply determine demand faced by the perfectly competitive rm

P, MR, AR
TR
40

TR
70
60
50
40
30
20
10
0

30
20
10
1 2 3 4 5 6 7 Q

D = P = MR = AR

1 2 3 4 5 6 7 Q

(b) Marginal and average revenue

(a) Total revenue


Figure 7.2 Revenue curves under perfect competition

ATC

price,
revenue,
costs

P = minimum ATC = break-even price


firm makes normal profit,
or zero economic profit
P = minimum AVC = shut-down price
firm is indifferent between producing
at a loss or not producing

P > ATC
firm makes economic
(supernormal) profit
ATC > P > AVC
firm makes loss but
continues to produce
P < AVC
firm makes loss
and shuts down

MC
1

P1
2

P2
3

P3
P4
P5
0

AVC

4
5
Q5 Q4 Q3 Q2 Q1
output, Q

Figure 7.4 Summary of the perfectly competitive rms short-run decisions, and the rms short-run supply curve

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Important diagrams to remember

MC
P1

ATC AVC

total profit

P1 = MR1 = AR1 = D1

profit

Q1

MC

ATC

P2

P2 = MR2 = AR2 = D2
= break-even price
(break-even point)
Q

Q2

AVC

(c) Economic loss: the rm continues to produce

(d) Loss in the short run and the shut-down price


price, revenue, costs

price, revenue, costs

(b) Zero economic prot (normal prot)

price, revenue, costs

price, revenue, costs

(a) Economic prot

MC

ATC

c
total loss

P3

P3 = MR3 = AR3 = D3

loss
Q

Q3

AVC

MC

ATC

AVC

e
total loss

P4

loss
= AFC
Q

Q4

P4 = MR4 = AR4 = D4
= short-run
shut-down price
Q

price, revenue, costs

(e) The loss-making rm that will not produce


MC

ATC

g
P5

P5 = MR5 = AR5 = D5

Q5

AVC

Figure 7.3 Short-run equilibrium positions of the perfectly competitive rm

(a) The rm

(b) The industry

price, costs, revenue

P
MC
SRATC

D = MR

Pe

LRATC
Pe

D
0

Qf

Qi

Figure 7.5 The rm and industry long-run equilibrium position in perfect competition

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Important diagrams to remember


From economic (supernormal) prot to normal prot

(a) The rm

(b) The industry

costs, revenue, P

P
MC
a

P1

P1

P2

S1

ATC

S2
2

P2

D
0

Q2 Q1

Q2

Q1

From loss to normal prot

costs, revenue, P

(c) The rm

(d) The industry


P

ATC

MC

S2

a
P1
P2

P2

P1

S1
1
D

Q1 Q2

Q2

Q1

Figure 7.6 From short-run equilibrium to long-run equilibrium

P
costs, revenue, P

MC

S = MC
ATC

Pe

consumer
surplus

P = MR = Pe

Qe

(a) The rm

Pe

producer
surplus

Qe

D = MB
Q

(b) The market/industry

Figure 7.7 Productive and allocative efciency in perfect competition in the long run

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Important diagrams to remember


(a)
price, costs, revenue

40
35
30
25
20
15
10
5

TR

Pe
profit

PED = 1
(unit elastic demand)

PED > 1
(price-elastic
demand)

15

PED < 1
(price-inelastic
demand)

10

1 2 3 4 5 6 7 8 9 10 11

D = AR
Q

max

MC
Pe loss

P = AR = D

MR

5
0

ATC

(b)

1 2 3 4 5 6 7 8 9 10 11

(b) Marginal and average revenue

price, revenue ( )

MC
a

price, costs, revenue

total revenue ( )

(a) Total revenue

ATC

c
d

MR
Qlmin

D = AR
Q

Figure 7.11 Prot maximisation and loss minimisation


in monopoly: marginal revenue and cost approach

-5
MR

MC
P

costs

price, costs, revenue

Figure 7.10 Revenue curves in monopoly

Pr

LRATC
D

D = AR
0

Qr

MR

minimum efficient
scale

Figure 7.12 Comparison of prot maximisation and revenue maximisation


by the monopolist

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Figure 7.13 Natural monopoly

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22

Important diagrams to remember


(a) Industry in perfect competition

(b) Monopoly
MC

Ppc

P = MRpc

D = MB
0

Qpc

price, costs, revenue

price, costs, revenue

S = MC
b

Pm

Ppc

D = MB
0

Qm

Qpc
MRm

Figure 7.14 Higher price, lower output by the rm in monopoly

(a) Perfect competition


P

Ppc

(b) Monopoly
consumer
surplus

S = MC
A
consumer
surplus

Pm

producer
surplus
B

Qpc

E
F

welfare (deadweight) loss

producer
surplus

D = MB
0

MC

Qm

D = MB

Qpc
MRm

Figure 7.15 Consumer and producer surplus and welfare (deadweight) loss in monopoly compared with perfect competition

(b) Monopoly

price, costs, revenue

price, costs

(a) Perfectly competitive rm

MC
ATC
Pe

Qpe

at long-run equilibrium
production takes place at min ATC
(productive efficiency), and
Pe = MC (allocative efficiency)

MC
ATC
Pe

D
0

Qm

Q
MR
at long-run equilibrium
production takes place at greater than
min ATC (productive inefficiency), and
Pe > MC (allocative inefficiency)

Figure 7.16 Allocative and productive inefciency in perfect competition and monopoly

Cambridge University Press 2012

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23

Important diagrams to remember

economic
(supernormal)
profit
MC
Pe

ATC

D = AR
0

Qe

MC

ATC

Pe

D = AR
0

(c) Losses

Qe

price, costs, revenue

(b) Normal prot

price, costs, revenue

price, costs, revenue

(a) Economic prot

losses
Pe

D = AR
0

Qe

MR

MR

MR

ATC

MC

Figure 7.21 Short-run equilibrium positions of the rm in monopolistic competition

Intergalactic Space Travels price


High price
Low price
40
million
Zs

ATC

Pe

D = AR
0

Qe

Qc
MR

Universal Space Lines price


Low price
High price

price, costs, revenue

MC
40
million
Zs

70
million
Zs
10
million
Zs

4
10
million
Zs

70
million
Zs

2
20
million
Zs

20
million
Zs

Figure 7.23 Game theory: the prisoners dilemma

Figure 7.22 Long-run equilibrium of the rm in monopolistic


competition

price, costs, revenue

P
MC
a

Pe

MC1

ATC

MC2

profit

MR
0

P1

max

D = AR
Q

Q1

Q
MR

Figure 7.24 Prot maximisation by a price-xing cartel

Cambridge University Press 2012

Figure 7.25 The kinked demand curve

Economics for the IB Diploma

24

Important diagrams to remember


P

P1

P2

Q1

MR1

MR = MR1 + MR2

D2

D1
0

MC

(a) Market 1

Q2

(b) Market 2

MR2
Q

Q3

(c) Market 1 and market 2

Figure 7.26 Third-degree price discrimination

Cambridge University Press 2012

Economics for the IB Diploma

25

Important diagrams to remember

Chapter 8 The level of overall economic activity

in (

ho

n
tio

households
(consumers)

ip
rsh
eu

uc

land
, la
bo

ur
,

en
pr

land, lab
our,
eurship
cap
pren
e
r
t
i ta
n
e
resource
l, e
,
l
a
t
nt
i
markets
p
re
a
c
o
c
e
sts
of
com
n
i
p
d
,
l
ro
es
d
ho
wag rofit)
se
nt, st, p
e
r ere
t

firms
(businesses)

ou
pe sehol
d
nd
itur
e

go
o

ds

an
ds
erv

ices

product
markets

es

ex

s
nue
reve

ds
goo

vic
er
s
and

Figure 8.1 Circular ow of income model in a closed economy with no


government

factor incomes
(wages, rents, interest, profit)

households
(consumers)

firms
(businesses)

consumer expenditure
(spending on goods and services)

di
en
sp

ng
o

tax
es
ni
mp

or t

ng

financial markets

t
en
tm
s
e
i nv

government

ern
gov

nt
spe
di
ng
ndi
ng
on
e xp
orts

savi

me

en
sp

other countries

Figure 8.3 Circular ow of income model with leakages and injections

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26

Important diagrams to remember


real GDP actually achieved

real GDP

peak contraction
peak

expansion

long term growth trend,


or potential GDP
trough

trough

time (years)

Figure 8.4 The business cycle

actual GDP > potential GDP;


there is an output gap:
unemployment < natural
rate of unemployment
expansion:
unemployment
falls

real GDP

contraction:
unemployment
increases

b
a

actual GDP

actual GDP < potential GDP; there is an


output gap: unemployment > natural
rate of unemployment

c
long term
growth trend, or
potential GDP =
full employment GDP;
unemployment =
natural rate of
unemployment

time (years)

Figure 8.5 Illustrating actual output, potential output and unemployment in the business cycle

Cambridge University Press 2012

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27

Important diagrams to remember

Chapter 9 Aggregate demand and aggregate supply


(a) The aggregate demand curve

(a) The upward-sloping SRAS curve

price level

price level

SRAS

AD
0

real GDP

(b) Shifts in the aggregate demand curve

(b) Shifts in the SRAS curve

AD1

AD2
0

real GDP

(a) The economy with a deationary


(recessionary) gap

(b) The economy with an inationary gap

price level

SRAS

Ple

real GDP

Figure 9.2 The short-run aggregate supply curve (SRAS )

Figure 9.1 The aggregate demand (AD) curve

price level

SRAS3 SRAS
1 SRAS
2

price level

price level

AD3
0

real GDP

SRAS

Ple

(c) The economy at the full employment


level of output

price level

SRAS

Ple

AD
AD

Ye Yp

real GDP

Yp

Ye

real GDP

AD

Yp = Ye
real GDP

Figure 9.4 Three short-run equilibrium states of the economy

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28

Important diagrams to remember


(a) Changes in aggregate demand

(b) Changes in short-run aggregate supply


SRAS3

Pl2
Pl1
Pl3

AD2
AD3

AD1

Y3 Y1 Y2

price level

price level

SRAS

SRAS1

SRAS2

Pl3
Pl1
Pl2
AD

Y3 Y1 Y2

real GDP

real GDP

Figure 9.5 Impacts of changes in short-run macroeconomic equilibrium

(a) Changes in aggregate demand

(b) Changes in short-run aggregate supply

LRAS

LRAS
SRAS2
SRAS1

Pl3
Pl1
AD3

Pl2
AD2

AD1

Pl2

SRAS3

Pl1
Pl3
AD

Yrec Yp Yinfl

recessionary
(deflationary) gap

price level

price level

SRAS

real GDP
inflationary
gap

Y2 Yp Y3

recession with
inflation
('stagflation')

real GDP

higher real
GDP with lower
price level

Figure 9.6 Possible causes of the business cycle

LRAS
price level

SRAS

AD
0

Yp
real GDP

Figure 9.7 The LRAS curve and long-run equilibrium in the monetarist/
new classical model

Cambridge University Press 2012

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29

Important diagrams to remember


(a) Creating and eliminating a deationary gap

(b) Creating and eliminating an inationary gap


LRAS

LRAS

SRAS1

Pl1

Pl2

price level

price level

SRAS1
SRAS2

b
c

Pl3

Pl3

Pl2
Pl1

b
a

AD1
AD2

SRAS2

AD1
AD2

Yrec Yp

Yp Yinfl
real GDP

real GDP
Figure 9.8 Returning to long-run full employment equilibrium in the monetarist/new classical model

LRAS
Keynesian AS

Pl1

price level

price level

SRAS1
AD1
SRAS2

Pl2

section III

section II

AD2

section I

Yp

real GDP

(b) Inationary gap

(c) Full employment equilibrium


Keynesian AS

price level

Keynesian AS

price level

price level

Keynesian AS

real GDP

Figure 9.11 The Keynesian aggregate supply curve

Figure 9.9 Changes in long-run equilibrium in the monetarist/new


classical AD-AS model

(a) Recessionary (deationary) gap

Yp Ymax

AD

AD

AD

Ye
real GDP

Yp

Yp Ye
real GDP

Yp = Ye
real GDP

Figure 9.12 Three equilibrium states of the economy in the Keynesian model

Cambridge University Press 2012

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30

Important diagrams to remember


(a) The monetarist/new classical model

(b) The Keynesian model


Keynesian AS

Pl1
Pl2

price level

price level

LRAS

AD3

Pl3

AD2
AD1

Yp

AD2

AD1

real GDP

Y1

Y2

AD3

AD4

Y3 Yp real GDP

Figure 9.13 Effects of increases in aggregate demand on real GDP and the price level

(a) The monetarist/new classical model


LRAS2

AS1

AS2

price level

price level

LRAS1

(b) The Keynesian model

Yp2 real GDP

Yp1

Yp2 real GDP

Yp1

Figure 9.14 Increasing potential output, shifts in aggregate supply curves and long-term economic growth

(a) The monetarist/new classical model

AS1

LRAS2
SRAS1

SRAS2

Pl1

AD1
Y1

AD2
Y2

real GDP

AS2

price level

price level

LRAS1

(b) The Keynesian model

AD2

AD1

Y1

Y2

real GDP

Figure 9.15 Long-term economic growth: achieving potential (full employment) output in a growing economy

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31

Important diagrams to remember


Higher level topic

Keynesian AS
induced
spending

$8
million

Pl3
price level

price level

autonomous
spending

$24
million
$32 million

AD1

Y1

AD2

Y2

AD3

Y3

real GDP
Figure 9.17 Aggregate demand, real GDP and the multiplier in the
Keynesian model

Cambridge University Press 2012

Pl2
Pl1
AD1

Y1

AD2

Y2
real GDP

AD3

AD4

Y3

Figure 9.18 How the effect of the multiplier changes depending on the
price level

Economics for the IB Diploma

32

Important diagrams to remember

Chapter 10 Macroeconomic objectives I: Low unemployment, low and stable


rate of ination
P

S2
S1

S
price

P1
P2

price

P2
P1

D1

D2
0

Q2

Q1

(a) Fall in demand for a product produced


in a declining industry, or produced in
a local industry that relocates, causes
a fall in Q produced; employers re
workers with inappropriate skills or
local workers no longer needed due to
relocation

Q2

Q1

price of labour (wage)

Wm
We

(b) Labour market rigidities lead to an


increase in costs of production (supply
shifts to the left), causing a fall in
Q produced; employers hire fewer
workers

labour surplus =
unemployment

supply
of
labour

Qe Qs
Qd
quantity of labour

demand
for
labour
Q

(c) Minimum wage legislation and labour union


activities lead to higher than equilibrium wages
and lower quantity of labour demanded

Figure 10.1 Structural unemployment


(b) The Keynesian model

(a) The monetarist/new classical model

Keynesian AS
SRAS

price level

price level

LRAS

Pl1
Pl2
AD1

Pl1
Pl2
AD1
AD2

AD2

Yrec Yp

Yrec

Yp

real GDP

real GDP
Figure 10.2 Cyclical unemployment
(a) The monetarist/new classical model

(b) The Keynesian model

LRAS

AS

LRAS

Pl1

AD2

Pl2
Pl1

AD2

Yinfl

real GDP
Figure 10.4 Demand-pull ination

Cambridge University Press 2012

SRAS1

Pl2
Pl1

AD1

AD1

Yp

price level

Pl2

price level

price level

SRAS

SRAS2

AD1
0

Yp Yinfl
real GDP

Yrec

Yp

real GDP
Figure 10.5 Cost-push ination

Economics for the IB Diploma

33

Important diagrams to remember


Higher level topic

(b) The reasoning behind SRAS shifts in


terms of the AD-AS model

(a) The shifting Phillips curve

price level

rate of inflation

SRAS3
c
b
a

PC3
PC2
PC1
unemployment rate

Pl3

SRAS2

Pl2

SRAS1

b
a

Pl1

AD
0

Y3 Y2 Y1
real GDP

Figure 10.7 Stagation: outward shifts of the short-run Phillips curve due to decreasing SRAS

(a) The shape of the LRPC and SRPC

(b) The reasoning behind the two curves in


terms of the AD-AS model
LRAS
SRAS2

9%
7%
5%
0

c
b

SRPC2

SRPC1

3% 5%
unemployment rate

price level

rate of inflation

LRPC

Pl3

c
b SRAS1

Pl2
Pl1

AD2

AD1

Yp Yinfl
real GDP

5% = natural rate
of unemployment

Figure 10.8 The short-run and long-run Phillips curves

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34

Important diagrams to remember

Chapter 11 Macroeconomic objectives II: Economic growth and equity in the


distribution of income
100

B
A
0

(b) Economic growth as an increase in production possibilities


caused by increases in resource quantities or improvements in
resource quality

cumulative percentage of income

(a) Economic growth as an increase in actual output caused by


reductions in unemployment and productive inefciency

80

60

Belarus
f

20
e
a
0

40

perfect
income
equality

c
Bolivia

40
80
20
60
cumulative percentage of population

100

Figure 11.3 Lorenz curves: Belarus achieves greater income equality than
Bolivia

100
PPC1 PPC2 PPC3 X

Figure 11.1 Using the production possibilities model to illustrate economic


growth

cumulative percentage of income

80

60

perfect income
equality
increased income
equality after
redistribution

40

20

before
redistribution

40
80
20
60
cumulative percentage of population

100

Figure 11.4 Lorenz curves and income redistribution

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35

Important diagrams to remember

Chapter 12 Demand-side and supply-side policies


(a) The monetarist/new classical model

(a) The monetarist/new classical model

LRAS

price level

price level

LRAS
SRAS

Pl2
Pl1
AD2

SRAS

Pl1
Pl2

AD1
AD2

AD1

Yrec Yp

real GDP

Yp Yinfl real GDP


potential output

(b) The Keynesian model


(b) The Keynesian model

AS

Pl2
Pl1

price level

price level

Keynesian AS

Pl1
Pl2

AD1
AD2

AD2
AD1

Yrec

Figure 12.1 Effects of expansionary policy: eliminating a recessionary


(deationary) gap

price level

(a)

potential output

Figure 12.2 Effects of contractionary policy: eliminating an


inationary gap

(b)

Partial crowding out

due to G

SRAS

due to I

AD2

Complete crowding out

Y2

AD2

AD1

AD1

Y1 Y3
real GDP

SRAS
due to G

due to I

AD3

Yp Yinfl real GDP

Yp real GDP

price level

Y1
Y2
real GDP

Figure 12.3 Crowding out of private investment

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36

Important diagrams to remember


(a) Equilibrium rate of interest

(b) Changes in the supply of money cause


changes in the equilibrium rate of interest
Sm3
rate of interest

rate of interest

Sm

i
Dm
0

Qe
quantity of money

Sm1

Sm2

i3
i1
i2
0

Dm
Q3
Q1 Q2
quantity of money

Figure 12.4 The money market and determination of the rate of interest

Cambridge University Press 2012

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37

Important diagrams to remember

(a) Country A: absolute


advantage in good Y;
Country B: absolute
advantage in good X

(b) Country A: comparative


advantage in good Y;
Country B: comparative
advantage in good X

good Y

Chapter 13 International trade

good Y

good Y

0
country A
country B

good X

country As PPC
country Bs PPC
good X

country A
country B

Figure 13.5 Identical opportunity costs:


no gains from trade

good X

Figure 13.3 Absolute and comparative advantage


Opportunity cost of cotton

Opportunity cost of microchips

(2)
Microchips

(3)

(4)

Production possibilities when each


country produces only cotton or
only microchips
(1)
Cotton
Cottonia
Microchippia

20

or

10

10 units of microchips 1
=
20 units of cotton
2

20 units of cotton
=2
10 units of microchips

25

or

50

50 units of microchips
=2
25 units of cotton

25 units of cotton
1
=
50 units of microchips 2

Table 13.2 Comparative advantage


(a) Cottonia exports 10 units of cotton and
imports 10 units of microchips
25

25

cotton

20
Microchippias PPC

15

15
B consumption

10
5

10
5

cotton

20 A production

Cottonias
PPC

10 20 30 40 50 60
microchips

10 20 30 40 50
microchips

(b) Microchippia exports 10 units of


microchips and imports 10 units of cotton
25
20
cotton

Figure 13.2 Comparative advantage

15
10
5
0

D consumption
C production
10 20 30 40 50
microchips

Figure 13.4 The gains from specialisation and trade based on comparative
advantage: both countries consume outside their PPC

Cambridge University Press 2012

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38

Important diagrams to remember


(a) Effects on imports

Sd =

domestic
supply

Pd
Pw + t

government revenue
world price + tariff

Pw

world price =
world supply curve

tariff

Q1

Q3

Q2

Q4

Dd = domestic demand

Dd = domestic demand

Q1

Q3

Q2

imports without quota

domestic supply

b
e

a
d

tariff

world price =
world supply curve

Q2

Q3

Q4

Sd = domestic supply

P
a

world price + tariff

Dd = domestic demand

Q1

Q4

(b) Welfare effects

Sd =

welfare loss = d + f

world price =
world supply curve

Pw

imports without tariff

plus quota

Pq

imports with quota

Pw g

Sdq = domestic supply

quota

quota
revenue

imports with tariff

(b) Welfare effects

Pw + t

Sd = domestic supply

(a) Effects on imports

Pq
Pw g

b
c

Sdq = domestic supply


plus quota

quota

d e

welfare loss = d + e + f

e f

world price =
world supply curve

imports with tariff

Dd = domestic demand

imports without tariff

Q1

Q2

Q3

Q4

imports with quota


imports without quota

Figure 13.9 Effects of a quota

Figure 13.7 Effects of a tariff

(a) Production subsidy: quantity of imports falls

Sd = domestic supply
Sds = domestic

subsidy

Ps

supply minus subsidy


world price =
world supply curve

Pw

Dd = domestic demand
0

Q1

Q3

Q2

imports after subsidy


imports before subsidy

Figure 13.11 Production subsidies

Cambridge University Press 2012

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39

Important diagrams to remember

Chapter 14 Exchange rates and the balance of payments


(a) Demand for $ increases: $ appreciates

per $ = price of $ in terms of

per $ = price of $ in terms of

(a) The market for US dollars


S of $

excess supply of $

(dollars)

0.80

equilibrium
exchange rate

0.67
0.50

excess demand for $

D for $
(dollars)

Q of $ (dollars)

2.00
equilibrium
exchange rate

1.50
1.25

D for

excess demand for

(euros)

Q of (euros)

$ per bople = price of boples in terms of $

(a) Shifting the currency demand curve

2. central bank buys excess


boples, increasing demand
for boples

1. fall in demand for Bopland's


exports reduces demand
for boples

C
D2 for boples

D2 for $

D1 for $
0

Q of $ (dollars)

S1 of
S2 of

1.50

1.11

D for
0

Q of (euros)

Figure 14.2 Exchange rate changes in a freely oating exchange rate system

(b) Shifting the currency supply curve

S of boples

0.67

$ per = price of in terms of $

(euros)

Q of boples

D1 for boples

$ per bople = price of boples in terms of $

$ per = price of in terms of $

S of

excess supply of

Figure 14.1 Exchange rate determination in a freely oating exchange


rate system

2.00
1.50

0.90

(b) Supply of increases: depreciates

(b) The market for euros

S of $

S1 of boples

S2

2.00

2. imports are reduced,


therefore the supply
of boples falls

1. fall in demand for Bopland's


exports reduces demand
for bople

D2 for boples
0

D1 for boples

Q of boples

Figure 14.3 Fixed exchange rates: maintaining the value of the bople at 1 bople = $2.00

Cambridge University Press 2012

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40

Important diagrams to remember


(a) With a trade decit, country consumes outside its PPC

good A

PPC

good B

good A

(b) With a trade surplus, country consumes inside its PPC

D
PPC

good B

Figure 14.6 Using a PPC to illustrate a trade decit and a trade surplus

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41

Important diagrams to remember

Chapter 15 Economic integration and the terms of trade


Higher level topic

global price of internationally


traded good

S
global supply
of wheat

P2
P1

D2
global demand
D1 for wheat

P3
D3
0

Q3

Q1

Q2

quantity of internationally
traded good

global price of internationally


traded good

(b) Changes in global supply: effects of terms of trade changes on


the balance of trade depend on PEDs for exports and imports

(a) Changes in global demand: terms of trade and


balance of trade change in same direction

S3

S1
global supply

P3

S2

P1
P2

global demand
D

Q3 Q1

Q2

quantity of internationally
traded good

Figure 15.1 Changes in global demand or supply: terms of trade impacts on the balance of trade

S1

S2

P1
P2
D2
D1
0

Figure 15.2 Long-term declines in primary product prices due to low


growth in demand (due to low YEDs) and high growth in supply
(due to technological advances)

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42

Important diagrams to remember

Chapter 16 Understanding economic development

industrial goods

AB: no economic growth with some development


BC: economic growth with no development
BD or E: economic growth with development

C
D

A
B
PPC1

E
PPC2

merit goods

Figure 16.1 Economic growth and economic development

low
income

low
savings

low
investment

low physical
capital

low growth
in income

low
human
capital

low natural
capital

low productivity
of labour
and land

Figure 16.2 The poverty cycle (poverty trap)

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43

World Bank country classication


The World Bank classifies countries into four groups
according to income levels (based on 2008 GNI per
capita):
Economically less developed countries:
low income, with GNI per capita of US$975 or less
lower middle income, with GNI per capita of
$976$3855
upper middle income, with GNI per capita of
$3856$11 905.
Economically more developed countries:
high income, with GNI per capita of $11 906 or
more.
Table 16 World Bank country groups by 2008 GNI per capita

Low income economies


Afghanistan
Bangladesh
Benin
Burkina Faso
Burundi
Cambodia
Central
African Rep.
Chad
Comoros
Congo, Dem.
Rep.
Eritrea

Lower middle income economies


Albania

Guatemala

Angola

Guyana

Armenia

Honduras

Vietnam

Bhutan
Bolivia
Cameroon

India
Indonesia
Iran, Islamic
Rep.

Nicaragua
Nigeria
Pakistan

Niger
Rwanda

Yemen, Rep.
Zambia

Cape Verde
China

Iraq
Jordan

Senegal

Zimbabwe

Congo, Rep.
Cte dIvoire
Djibouti

Kazakhstan
Kiribati
Kosovo

Palau
Papua New
Guinea
Paraguay
Philippines
Samoa

Ecuador

Lesotho

Egypt, Arab
Rep.
El Salvador

Macedonia,
FYR
Maldives

Ethiopia
Gambia, The
Ghana
Guinea
Guinea-Bissau
Haiti
Kenya

Madagascar
Malawi
Mali
Mauritania
Mongolia
Mozambique
Myanmar

Sierra Leone
Somalia
Tajikistan
Tanzania
Togo
Uganda
Uzbekistan

Korea, Dem.
Rep.
Kyrgyz Rep.
Lao PDR

Nepal

Liberia

Marshall
Islands
Micronesia,
Fed. Sts
Morocco

Sudan
Swaziland
Syrian Arab
Republic
Thailand
Timor-Leste
Tonga
Tunisia
Turkmenistan
Ukraine
Vanuatu
West Bank
and Gaza

So Tom and
Principe
Solomon
Islands
Sri Lanka
(continued over)

Cambridge University Press 2012

Economics for the IB Diploma