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Why Us?

The three of us have been friends for a long time. When we agreed to write this book together, we wanted to bring an important, practical, and diverse perspective to the presentation of intermediate microeconomics. We teach in economics departments and in business schools, and we are active empirical microeconomics researchers. Our grounding in different areas of empirical research allows us to present the evidence developed in the last 20 years that has tested and refined the fundamental theories. We are confident that our teaching and professional experiences are reflected in an outstanding presentation of microeconomics theories and applications.

Teaching in both economics departments and business schools has a further benefit. As teachers, we are often challenged by students who want to make sure they are getting their money’s worth. These students want to see how realistic theory can be if used in practical settings. We wrote this book with such students in mind.

Why Our Book Is Different

We couldn’t have been more obvious or explicit about our approach to microeconomics: We put a Swiss Army knife on the cover of the book, a theme we’ve continued in this edition. The Swiss Army knife contains many basic tools that you can use to accomplish many varied tasks. And this is how we view microeconomics:

We believe that microeconomics should inspire and excite students with its elegance and usefulness, and that a textbook should support this goal. We want to help each student grow from someone who has learned some economic principles to someone who can apply the tools of economic analysis to real situations, as economists do. And in envisioning and writing this book we wanted to deal effectively with two questions we hear regularly from students about the micro course: Do people and firms really act as theory suggests? and How can someone use microeconomic theory in a practical way?

Do people and firms really act as theory suggests?

All microeconomics texts present the standard tools and theory of economics and all have examples. In their presentations, however, they do little to address a student’s natural skepticism and they expect students to take on faith that these theories work. They do not always show effectively that these theories can be used in specific and practical ways.

Furthermore, the ease with which data can be collected and analyzed has led to a radical shift in microeconomics and current texts have not fully kept up with the dramatic rise of empirical work in applied microeconomics research. Undergraduates and business school students will find microeconomics compelling if it not only explains the theory, but also demonstrates how to use it, and provides real-world data to back it up. We show students the reality behind the theory in our plentiful and up-to-date examples, Applications, and Freakonomics essays. We have developed and selected events, topics, and empirical studies with a clear eye toward how economists use real data to test ideas. By including this empirical dimension, Microeconomics shows, often in surprising ways, that the theories can explain real behavior and where theories need to be modified.

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How can someone use microeconomics in a practical way?

Students often view the intermediate microeconomics course as abstract and theoretical. Because this course requires a high degree of effort from students, they should know why and how the material they learn will be useful. Without that knowledge, they will be bored and unmotivated. So we wanted to write a book of useful economics. When done the right way, economics is extremely useful: useful for business, useful for policy, useful for life. By illustrating how theory and research can explain and illuminate everyday events, market characteristics, business strategies, and government policies, our book shows students how to take the tools they learn and do something with them.

Our Second Edition

We are happy to report that comments from instructors and students tell us that we achieved our goals. Our accessible writing and patient explanations, along with our current, vivid, and occasionally quirky examples (some of them found in Steve’s Freakonomics boxes) have helped students see the beauty, power, utility, and practicality of economic thinking. And the extensive online resources helped instructors enhance the course, improved assessment, and presented students with a wide variety of tools to help them succeed in the course.

Improving Our Book

In preparing this revision, we, with the help of Worth Publishers, have benefited greatly from direct reports and reviews from those most engaged with the book: instructors and students. We were gratified to learn that both groups found our book to be

We also received excellent feedback on what content to clarify, add, or delete. This feedback directly influenced decisions on content, pedagogy, and supplementary resources.

Enhanced Content

Foremost among instructors’ suggestions was the request for a full chapter on factor markets. In this edition, we have written a new chapter, Chapter 13: Factor Markets, which covers the operation of perfectly and imperfectly competitive markets. In addition to a thorough analysis of the theory, the chapter features many interesting applications such as “Tiger Woods’s Backward-Bending Labor Supply Curve,” “Smartphones, Coltan, and Conflict Minerals,” “The Rookie Pay Schedule in the NBA,” and “Longshore Workers’ Wage Premium.” To see the coverage in this completely new chapter, see p. viii in the Brief Contents, or turn to p. 511. While we thoroughly cover labor, land, and other factor markets in this new chapter, we kept our coverage of the capital market in Chapter 14, which deals with the issues of time and uncertainty. We felt that was a more natural place to discuss capital, which is unique among factors in terms of the prominence of time and uncertainty in shaping market outcomes.

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Also following the requests of many instructors, we have moved some of the more detailed coverage of particular topics (such as price elasticity of demand and expenditures; binding price ceilings and floors; direct government provision of goods and services; expenditure minimization versus profit maximization and the “dual”; Giffen goods; risk aversion and investment decisions under uncertainty; and tradable permits) out of the main text in order to streamline it. All of that material is still available under Instructor Resources on the book’s LaunchPad site for anyone who wants to cover the subjects at more length.

Real World, Real Life

Microeconomics provides examples that offer unusual perspectives on the seemingly ordinary. We were gratified by the overwhelmingly positive response to the many ways in which we integrated real-life, up-to-date, and, above all, interesting examples and Applications into our presentation. Instructors especially appreciated our extensive inclusion of empirical examples. All told, we have over 200 examples (20% of them new in this edition), Applications, and Freakonomics boxes that illustrate how useful the microeconomic toolbox is in illuminating and understanding all aspects of economics and life.

Our Freakonomics boxes, in particular, show how (in often surprising ways) economic analysis can illuminate not only common phenomena but also things not normally thought to be within the economist’s purview.

Here are a just few of our new Applications and Freakonomics essays. For a complete list of these features, please look inside the front cover.

Applications:

Rideshare Driving the Microeconomics Way

Economies of Scale in Retail: Goodbye, Mom and Pop?

Patent Length and Drug Development (cites new research by economists Eric Budish, Benjamin Roin, and Heidi Williams)

Facebook Fixes an Externality

Freakonomics:

3D Printers and Manufacturing Cost

Horsemeat and General Equilibrium

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Helping Students Succeed in Microeconomics

Figure It Out

We have been especially pleased with the overwhelmingly positive responses from instructors and students alike to our efforts to help students hone and improve their problem-solving abilities. As we were writing the first edition, reviewers, focus group participants, and class testers continually told us that their students have difficulty translating what they have learned into the ability to solve problems using what they have learned. To address this problem, each chapter has several Figure It Out exercises. These detailed, worked-out problems patiently and completely walk students through analyzing exactly what a problem asks them to do, identifying what tools they need to solve the problem, and using those tools to arrive at an answer.

The Figure It Out exercises are carefully coordinated with the end-of-chapter problem sets so that students are well prepared to successfully work out not only the end-of-chapter exercises, but also questions on quizzes and exams. With this second edition, students can further improve their problem-solving skills by going to LaunchPad to work through tutorials based on key Figure It Outs from the text.

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End-of-Chapter Problem Sets

There are over 350 problems, 30% of which are new to this edition. In response to instructor requests, we have revised these problems sets so that there are problems for every chapter section. We have also worked particularly hard to coordinate our problems with the Figure It Out exercises in the main chapter. If students have worked through the Figure It Outs, they will be successful in tackling the solutions to each problem. Each problem set was exhaustively reviewed by instructors to ensure its validity and usefulness in testing the chapter’s coverage.

Make the Grade Essays

Make the Grade essays point out common pitfalls that students may encounter, help them navigate through the finer points of microeconomic theory, and present practical advice on topics that frequently trip up students during homework and tests. Examples include “Simple Rules to Remember about Income and Substitution Effects” (Chapter 5, p. 181), “Is It Really Price Discrimination?” (Chapter 10, p. 391), and “The Check Method” (Chapter 12, p. 471).

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Words and Pictures

Outstanding presentation in an economics text depends on two main factors. We have ensured that our book delivers on each one.

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How We Deal with Math

Math is a powerful tool for economic analysis, and we want students of every skill level to be able to use it effectively. We have provided a text that will work for a diverse population of students and encourage them to use their math skills to unlock the potential of economic analysis. Our versatile text and its accompanying resources will allow you to use our book in a course with a standard algebraic and geometric focus or in one that relies more on calculus.

Our clear, accessible verbal and graphical presentations are supported by thorough, step-by-step explanations. The whys and wherefores of each step in the mathematical development of concepts are always clearly explained, and allow even math-shy students to easily understand how the use of math can enhance and simplify economic analysis. The main text uses algebra and geometry, but our in-text and online calculus appendices and accompanying resources allow calculus to be integrated easily into our book’s presentation of theory, practice, and application.

Math Review Appendix

Most students entering this course will benefit from a math review, whether it is a review of basic algebra or of calculus. The Math Review Appendix at the back of the book provides the review necessary to prepare students for the math they will use throughout the text.

Calculus

The calculus is presented in appendices that employ the same conversational tone and intuitive approach as the text and include examples and Figure It Out problems (which are often the same as the algebra-based ones in the chapter). In this way, students can see how the calculus analysis buttresses the algebraic analysis. To give students an opportunity to practice what they have learned, each appendix includes problems that require the use of calculus.

To connect the material presented in the chapter with that in the calculus appendices, we have placed marginal notes in the chapter. These notes direct students to the appropriate appendix, and explain specifically how calculus will be used to understand the concepts. We hope these notes will encourage students familiar with calculus to utilize it on their own.

All online appendices can be found at http://glsmicro.com/appendices.

In-text and Online Calculus appendices (* indicates an online appendix)

Chapter 2: * The Calculus of Equilibrium and Elasticities

Chapter 3: * The Calculus of Consumer and Producer Surplus

Chapter 4:The Calculus of Utility Maximization and Expenditure Minimization

* The Mathematics of Utility Functions

Chapter 5: The Calculus of Income and Substitution Effects

* The Calculus of Demand

Chapter 6: The Calculus of Cost Minimization

* The Calculus of Production Functions and Input Demand

Chapter 7: The Calculus of a Firm’s Cost Structure

* The Calculus of a Firm’s Cost Structure Expanded

Chapter 8: * The Calculus of Long-Run Competitive Equilibria

Chapter 9: The Calculus of Profit Maximization

Chapter 10: * The Calculus of Price Strategies

Chapter 11: * The Calculus of Cournot and Differentiated Bertrand Competition Equilibria

Chapter 12: * The Mathematics of Mixed Strategies in Game Theory

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How Our Book Is Organized

Here is a brief snapshot of the chapters in the book with a bit of discussion on particular subjects that received some special attention or might be different from what you would find in other books. We consider Chapters 1–11 the core chapters that most instructors will teach. The remaining chapters, 12–18, can be taught independently of one another.

Chapter 1, Adventures in Microeconomics: We open the book with a brief introductory chapter and a story about the markets for making and for buying coffee to entice and excite students about the study of microeconomics. Through an Application and a Freakonomics box, we show students right away how the microeconomic tools developed in this course are useful, not just in the study of economics and business, but in the pursuit of everyday life.

Chapter 2, Supply and Demand: In Chapters 2 and 3, we lay a solid foundation by going deeply into supply and demand before we move on to consumer and producer behavior. Most microeconomics texts separate the presentation and the application of this simple yet powerful model. Presenting all aspects of this model at the beginning makes logical sense, and we (and those who have used our book) have experienced success with this approach in classes.

Chapter 2 presents the basics of the supply-and-demand model. Of particular note is the section “Key Assumptions of the Supply and Demand Model,” which exemplifies the care and clarity with which we develop and explain microeconomic theory.

Chapter 3, Using Supply and Demand to Analyze Markets: In Chapter 3, we use the supply-and-demand model to analyze extensively consumer and producer surplus, price and quantity regulations, and taxes and subsidies. We believe that the earlier these concepts are introduced and the more completely they are explained, the easier it is to use them throughout the course. Note that the presentation of the topics in Chapter 3 is designed to be flexible: You don’t have to cover every topic in the chapter; you can pick and choose.

Chapter 4, Consumer Behavior: How do consumers decide what and how much to consume given the enormous variety of goods and services available to them? We begin this crucial chapter by clearly laying out, in one section, the assumptions we make about consumer behavior. Actual tests among professors consistently showed this approach as being especially helpful for their students.

Chapter 5, Individual and Market Demand: Here we show how consumer preferences are used to derive market demand. Section 5.3, “Decomposing Consumer Responses to Price Changes into Income and Substitution Effects,” takes extra care in explaining this topic, which students often find challenging. Abundant applications and a discussion of pitfalls to avoid make this material particularly accessible and interesting.

Chapter 6, Producer Behavior: How do companies decide which combination of inputs to use in production, and how does this decision affect production costs? In this chapter, we begin by clearly laying out the simplifying assumptions about firms’ production behavior. Later in the chapter, we devote a complete section to the role technological change plays in firms’ productivity over time. Several applications and examples (including a Freakonomics box on how cell phones have altered the behavior of producers in the Indian fish market) bring this material alive for students.

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Chapter 7, Costs: Cost curves illustrate how costs change with a firm’s output level and are crucial in deriving market supply. Because opportunity costs and sunk costs are often difficult concepts for students to master, we take extra care at the start of Chapter 7 to distinguish these concepts and illustrate the role they play in decision making. Our examples (including studies of gym membership usage and why movie studios release films they know will lose money) engage students so that they can better understand the often challenging concepts in this chapter.

Chapter 8, Supply in a Competitive Market: This chapter begins our coverage of market structure, and it uses real-life industries such as the Texas electricity industry and housing markets in Boston, Massachusetts, and Fargo, North Dakota, to explain how competitive markets work. We clearly, carefully, and patiently explain a firm’s shutdown decision, a topic that students often find confusing.

Chapter 9, Market Power and Monopoly: This chapter begins with a thorough discussion of the origin of market power and how having such power affects a firm’s production and pricing decisions. Our three-step process for determining profit maximization for a firm with market power clarifies this topic for students. We bring the concept of monopolistic market power to life using examples of real firms with near-monopoly power, such as Durkee-Mower, Inc., the firm that makes Marshmallow Fluff, and Dr. Brown’s, a manufacturer of specialty sodas. Abundant applications, including a discussion of how Southwest Airlines enters the stronghold airports of incumbent carriers and drives down fares, further engage students’ interest.

Chapter 10, Pricing Strategies for Firms with Market Power: This practical chapter will appeal especially to business students. We thoroughly discuss the many ways in which a firm can take advantage of pricing power, and we clearly describe pricing strategies that can be effective in a variety of situations. Particularly useful to students are Figure 10.1, “An Overview of Pricing Strategies,” and a pedagogical device called When to Use It, which explains at the start of each strategy what a firm needs to know about its market and customers to use each pricing strategy most effectively.

Chapter 11, Imperfect Competition: This chapter looks at oligopolies and monopolistically competitive firms. Unlike perfectly competitive and monopolistic firms, these firms must consider their competitors’ actions and strategize to maximize their profits. To help students understand the various models of imperfect competition, each section starts with a Model Assumptions box that lists the conditions an industry must meet for that model to apply.

Chapter 12, Game Theory: The tools of game theory can be used to explain strategic interactions among firms and to predict market outcomes. Students will find our game theory analysis (presented in one chapter for better comprehension) easy to follow and understand because of our use of the check method (p. 471), which simplifies games and helps students easily identify Nash equilibria and dominant/dominated strategies. Varied topics from penalty kicks in soccer to airlines’ responses to threats of entry show the usefulness of game theory not just in business, but also in everyday decision making.

Chapter 13, Factor Markets: This chapter, which is new to this edition, covers many features of factor markets. To make the concepts more concrete, we use the labor market as an example in much of the development, but we also discuss the unique features of other factor markets. Factor demand and supply are built up from the individual firm or worker level, and then aggregated to an industry equilibrium. We cover perfectly competitive factor markets and those with market power, including monopsony and bilateral monopoly. In all cases, we draw out the many similarities between factor markets and the markets for other goods, so that students can use these connections to help them understand this new material.

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Chapter 14, Investment, Time, and Insurance: Understanding the role of risk and uncertainty over time helps individuals and firms make better economic decisions about investments and insurance. We clearly explain how current costs, future payoffs, time, and uncertainty play a fundamental role in the many decisions firms and consumers face every day. Reviewers especially appreciated our coverage of all these topics in one concise chapter. We kept our coverage of the capital market in this chapter because we felt it was a more natural place to discuss capital and the related salient issues of time and uncertainty. Instructors who prefer to cover this topic with the other factor markets in Chapter 13 will be able to do so using the largely self-contained sections in this chapter.

Chapter 15, General Equilibrium: We explain intuitively the concepts of general equilibrium, using an extension of the supply-and-demand framework. Examples include the use of horsemeat in Ikea meatballs and the interaction between housing and labor markets. We also explain the connections among exchange, input, and output efficiencies and tie them to the Welfare Theorems.

Chapter 16, Asymmetric Information: After discussing in earlier chapters what conditions must hold for markets to work well, we look at situations in which markets might not work well. Chapter 16 shows how market outcomes are distorted when information is not equally shared by all potential parties in a transaction. As always, a variety of examples, from auto insurance to credit cards to online reviews, shows students that concepts learned in microeconomics are useful in many areas of life.

Chapter 17, Externalities and Public Goods: This chapter continues our examination of market failure by looking at what happens to market outcomes when transactions affect people who are neither the buying nor the selling party, and what happens when a good’s benefits are shared by many people at the same time. Our coverage makes clear to students why externalities occur and how they can be remedied (including a discussion of tradable emissions permits). In our coverage of public goods, we show why a fire department might have an incentive to allow a house to burn down.

Chapter 18, Behavioral and Experimental Economics: The recent growth of behavioral economics poses a challenge to traditional microeconomics because it questions whether people actually behave the way traditional theory predicts they will. This question presents any intermediate microeconomics book with a conundrum because embracing behavioral economics seems to undermine the methods learned in the book.

Our chapter on behavioral economics explains how to think rationally in an irrational world. If some people make irrational economic decisions (and we present the behavioral evidence of situations in which they tend to make mistakes), other market participants can use this irrationality to their advantage.