IB Microeconomics Real-Life Examples

On Paper 1s, you are expected to use real-life examples in your arguments. This is a list of case studies, related to each part of the syllabus, you could keep in mind whilst answering a question. You shouldn't have to memorize everything, and remembering examples you've read about should come quite natural after a while. Following student feedback, I have tried adding links to most of these examples for further reading.

However, just stating a real example is not enough; You are expected to embed it in your evaluation. Get to know the content first!

This is not meant to be a list of examples you have to strictly memorize, but simply a list of cases you can keep in mind when evaluating an economic concept. The best way to learn real-life examples is to start reading economic news articles.

2.1 Demand

• Non-price determinants of demand:

• Income: As China has grown rapidly in the last 25 years, car sales has increased from 250,000/month in 2000 to over 2,500,000/month now, because people earn significantly more. 

• Tastes & Preferences: Many Android phones offer much better value than iPhones, yet 87% of US teenagers have an iPhone, and Apple has increased their market share worldwide in recent years.

• Future Price Expectations: Many art pieces are in high demand, not because people think they look good, but because they think it will be worth more in the future.

• Prices of Related Goods: Because many more affordable electric cars have come out in recent years (such as the Nissan Leaf), more electric cars are sold now than before. This then increases demand for EV chargers, even though the price of these have remained roughly the same.

2.2 Supply

• Non-price determinants of supply:

  • • Indirect Taxes/Subsidies: TSMC, a big semiconductor (computerchips) manufacturer, has received $5.1B in subsidies from the Japanese government to build a new factory. This will increase the production/supply of microchips.

    • Changes in Technology: Thanks to advancements in automation, the Tesla factory in Shanghai finishes a new car every 40 seconds. This means the firm can supply more cars now than before.

    • Number of Firms: There are many more firms in the smartphone industry now than 30 years ago, which is one of the reasons (not the only one) why there are more phones supplied now than before.

2.3 Equilibrium

• Signalling, incentives, and rationing:

  • • In recent years, the quantity demanded for gallium (a chemical used for making batteries) has increased, while supply has remained the same. This means the market price has increase.

      • • This increase in price signals to mining companies that they should produce more, because they now have an incentive to mine more. 

        • However, there is still a limited amount of gallium supply available in the world, meaning supply has to be rationed; For example, China has limited their exports of gallium, partly because of how little of it is available (they want it more for themselves)

2.4 Critique of Maximizing Behavior (HL Only)

• Types of behavioral economics: 

  • • Biases: Many people have a strong preference towards iPhones, and will never change over to Android, even though some Android models may offer better value.

    • Bounded Selfishness: The global charity industry was worth around $330B in 2021. Much of this money comes as donations from people, who see past their own selfishness and donate money to help others, too.

• Choice architecture: 

  • • Cookie banners that pop up on seemingly every website often come with a big colorful button that says "Agree to all cookies" (the default choice) and then a tiny textbox that says "Manage my choices". 

      • • When you click on "Manage my choices", you often have to untick many checkboxes before you can click "Save my preferences". 

        • Because they make it so hard to opt out of cookies, most people don't bother and just end up clicking "Agree to all," which is what the websites want.

• Nudge theory: 

  • • Amsterdam Airport (Schiphol) decided to try to combat "spillage" around their bathroom urinals, by putting small stickers of flies in the center of the urinals (so that people had something to aim at).

      • • This worked! Men aimed more at the urinal and there was less spillage.

2.5 Demand Elasticity

• Examples of PED elastic/inelastic goods:

  • • Elastic: Chewing gum is a product with many substitutes (other chewing gum companies), is (relatively) unimportant in people's lives, and is often bought because of its affordability. Therefore, when one firm increases prices, many consumers will very easily switch to a rival, meaning it is very elastic

    • Inelastic: Insulin is a drug needed by people who have diabetes. No matter what the price is, diabetics are still going to have to buy it, because their life depends on it. As a result, insulin has become very expensive in the US, costing almost $100 per vial.

• Importance of PED

  • • Some firms such as Uber or airlines frequently use PED to evaluate how to set the most optimal prices for their taxis. This is called "surge pricing".

      • • On rainy days, PED is lower as customers will much rather pay a little more in order to get where they want without getting wet. The same is true after big sporting or concert events, where people want to get home safely and quickly no matter the cost. 

        • Because this has proven to be so successful, many other industries are considering this. (link requires Financial Times subscription. Here is a bypass for those without one)

• Examples of YED elastic/inelastic goods

  • • Inferior goods: Cheap foods such as fast food, frozen pizza, rice, and instant noodles are all goods consumers typically consume more of when their income is low. During the 2008-2009 financial crisis, the number of fast food locations in the UK's largest cities increased by 6.6% and 8.2% in these two years. Their YED is less than 0

    • Necessities: Fruits and vegetables are required parts of the human diet, and absolute consumption will therefore not decrease when people earn more money. However, if one's income doubles one typically won't double/triple the amount of fruit eaten. It therefore falls into the necessity category. Their YED is between 0 and 1

    • Luxury goods: Consumers purchase more designer clothes, sports cars, and go on more holiday vacations when their incomes increase. Not just that, but if their income doubles, their consumption of holidays to exotic countries usually more than doubles. This means YED is more than 1, and it is a luxury.

• Importance of YED

  • • Fast food chains position and market themselves differently in different countries.

      • • In more developed countries (North America and Europe), fast food is considered "cheap", meaning its YED is low. 

        • In high-growth countries such as China or India, Western fast food chains such as McDonald's is considered a little more "luxury" (or at least not as much junk). It's YED is considerably higher, and it is possible this is done on purpose by McDonald's: China and India both experience large increases in consumers' incomes, so a positive YED will mean more sales for McDonald's. 

2.6 Supply Elasticity

• Examples of PES elastic/inelastic goods

  • • Elastic: Soft drinks are PES elastic. 

      • • If more supply is needed, companies can relatively easily upgrade their capital (factories).

        • Since they are ultra-processed, they can be stored in warehouses and grocery store shelves very easily and for a long time.

        • Supply is therefore responsive to price changes = PES elastic

    • Inelastic: Semiconductors (computer chips) are very PES inelastic. 

      • • If prices increase, it can take chip manufacturing companies like TSMC up to a decade to build new factories that increase capacity, because of the complexity needed to make these chips; it is very hard to build new capital. 

        • There is rarely any unused capacity in these factories as the companies try to maximize profits; TSMC, the world's largest chip manufacturer, is fully booked for years to come.

        • Chips also get better every year, so even though it is easy to store chips for later, there is no point as newer, faster ones now exist. 

        • In other words, supply is very unresponsive to price changes = PES inelastic

2.7 Role of Government in Microeconomics

• Price floor:

  • • In the US there is a nationwide minimum wage of $7.25/hour, which acts as a price floor in the labor market. 

    • This value hasn't changed since 2009 despite inflation, so many want this to increase to $15/hour. This would increase workers' surplus but reduce companies' surplus. 

    • However, others argue that since this will increase the price of labor, there will be an excess of labor, in other words, more unemployment, because companies won't be willing to pay that much.

• Price ceiling:

  • • In countries like the Netherlands and France, there is a limit on how much housing rent is allowed to increase per year. 

    • This will ensure renting prices will not significantly outpace people's incomes, but it means that if demand suddenly were to increase, there would be a shortage of houses available to rent, because landlords won't be willing to rent for that little. 

• Indirect tax:

  • • Many countries have high indirect taxes on goods such as polluting cars, candy, alcohol, and cigarettes. 

    • This helps in reducing people's consumption because the price will be higher, but surplus for both consumers and producers will decrease. The government will on the other hand earn money, which can be spent on other priorities. 

• Subsidy:

  • • China has for many years heavily subsidized electric cars, in an effort to increase both production and consumption. 

    • This has worked because these cars are now significantly cheaper than petrol cars. Both producer and consumer surplus has increased, however, this is a costly government effort, since the more successful this scheme becomes, the more money the government has to spend. 

• Direct provision of services:

  • • In most countries, public transportation (buses and trains) is not profitable for private companies, meaning there is little service and coverage without government intervention. 

    • Most public transit services are therefore provided by either the local city government or the national state, because its importance in relieving traffic and improving accessibility for people is "worth" the cost of operating buses in the eyes of the government.

    • Examples include Transport for London, a part of the London government that operates the famous Tube.

• Command & control regulation/legislation:

  • • In Norway, the government set a goal being that all new cars sold by 2025 should be emission-free (EVs). They have incentivized this using extensive legislation:

    • EV imports were for a long period tax-free, and there was no indirect tax on EVs (compared to 25% on petrol cars).

    • EVs got to use toll roads and ferries for free, had free parking, and could use bus lanes.

    • However, these rules were perhaps too successful, as it made buying an EV so attractive that the government lost significant amounts of tax, parking, and road toll revenue. Bus lanes were at many places jammed with EVs, destroying the whole point of a bus lane. 

    • Many of these incentives have therefore been scaled back, but it shows how effective regulation and legislation can be.

• Consumer nudges:

  • • Instead of banning cigarettes, many countries instead have rules about the packaging design of cigarettes to make them less appealing and attractive for consumers.

    • First pioneered in Australia but now used across the world, cigarette boxes have to use a specific brown color considered ugly and unappealing, and plain text describing the content rather than a colorful logo.

    • Additionally, messages encouraging you to quit, such as "SMOKING KILLS" or "QUITTING WILL IMPROVE YOUR HEALTH" are written in large letters across the package.

    • This "plain tobacco packaging" tactic is a way for governments to nudge consumers into quitting cigarettes, without actually restricting the freedom of its people. An outright ban could potentially reduce cigarette consumption more, but this would cause much more upset among people wanting the freedom to choose themselves.

2.8 Market Failure: Externalities & Common Pool Resources

• Positive externality of production:

  • • When building new energy power plants from renewable sources in the US, the overall benefit for society is much larger than the benefit the electricity company receives: The world receives fewer carbon emissions, the US reduces its dependency on foreign gas imports, and people will experience less pollution. (MPC > MSC)

    • However, when left up to the free market, few of these projects will be done as private companies don't really care about how society will benefit. 

    • The US government therefore recently stepped in, with the "Inflation Reduction Act" meant to, amongst other things, subsidize investments in building green energy facilities. This is a form of subsidy, and is expected to boost the production of things like solar panels.

• Positive externality of consumption:

  • • Goods such as fruits and vegetables create positive externalities, as the healthcare system benefits from you being healthy, avoiding expensive trips to the hospital. As they say, an apple a day keeps the doctor away. (MSB > MPB)

    • However, in the free market, producers can earn more by selling processed foods, and consumers often enjoy the taste of unhealthy goods more.

    • In an effort to promote healthy eating, countries like the US, UK and Germany have therefore launched initiatives such as "5 a day", where they try to encourage people to eat 5 fruits a day. This is a form of education/awareness campaign.

• Negative externality of production:

  • • A coal power plant in Poland pollutes as much CO2 as the entirety of Switzerland (!!!), just as a by-product for energy production. This is an enormous negative externality, as the world has to suffer from tens of millions of tonnes of extra CO2, which is a much higher cost than the power plant operator experiences themselves. (MSC > MPC)

    • An effort that could limit this pollution was proposed by the Polish state energy company, namely being tradable permits. This solution would have put a cap on total pollution in the country but allow the various power plants to trade permits for polluting, which would have encouraged this power plant to improve its efficiency. 

    • (this plan sadly failed after they failed to secure EU funding, but that's not necessary to mention in a paper 1)

• Negative externality of consumption:

  • • Smoking may result in a significantly higher cost for society than on the person smoking, as the national healthcare system has to pay for their lung cancer treatment, or other illnesses associated with smoking. (MPB > MSB)

    • Governments worldwide therefore try to discourage smoking using a wide variety of intervention methods: High indirect taxes, regulation limiting where you can smoke, educating people on the dangers of smoking, and international agreements trying to limit smoking worldwide. 

    • (however, it could also be argued that smokers are better for society than non-smokers: a study in 2000 concluded that since smokers tend to die much earlier than non-smokers, they cost the government a lot less in pension and healthcare costs. However, this study was funded by a tobacco company and caused international outrage due to its immorality)

2.9 Market Failure: Public Goods

• Examples of public goods:

  • • Basically anything you can think of that companies won't provide because they won't make any money off of it: National military, streetlights, parks (in most cases), police, knowledge, etc.

• Government intervention in response to public goods:

  • • In the vast majority of countries there is at least some form of military provided by the government. 

    • Some of the militaries' goods and services are provided directly by the government, such as making armor and organizing the hierarchy in the system. 

    • However, the government may also pay private companies to design and build things themselves, such as fighter jets from Lockheed Martin or missiles from Raytheon (contracting out to the private sector). This is the case in many Western countries and is infamously known as the military-industrial complex. Sometimes this works because private companies tend to be more efficient than state entities, but since they also aim to maximize profits it can also be much more expensive than otherwise. 

2.10 Market Failure: Asymmetric Information (HL Only)

• Example of asymmetric information:

  • • Up until 1996, nutrition information was not required by food and drink manufacturers, meaning that consumers had very little information regarding what they ate. 

• Responses to asymmetric information:

  • • Both the US and the EU have in recent decades implemented their own standards saying that food and drinks companies have to list their ingredients on the packaging. This includes total energy, sugar, and fat, and is meant so that consumers can know more about what they are eating and drinking than before.

2.11 Market Failure: Market Power (HL Only)

• Monopoly: 

  • • ASML has a monopoly on EUV-lithography machines (sounds complicated, is complicated, but basically machines used to make chips used in computers).

    • There is no substitute to this product, extremely high barriers to entry (as all expertise on how to make these machines has taken hundreds of billions of $ to find), and the firm is a price maker.

    • This is not allocatively efficient, as the company produces fewer machines than what is desired by chip companies who need these machines. 

    • This monopoly is an interesting one, as it has big economies of scale (lots of research would not have been possible if there had been 100 small companies), improving market efficiency. At the same time, it limits output and has high prices, reducing market efficiency. 

• Natural Monopoly:

  • • In many cities there is just 1 public transit provider, 1 company that controls the bus, train, and subway services. 

    • This is because it is most efficient for society to just have one company do this; Imagine the chaos if every bus line was operated by another company, compared to the convenience of being able to use one ticket on every transit line. 

    • Also, each individual bus line becomes cheaper to run when the company has 50 lines compared to just 1 (economies of scale). A natural monopoly can therefore reduce the overall costs of inefficiencies, lowering prices for consumers and reducing a welfare loss.

• Collusive Oligopoly:

  • • In 2019, it was found that Mercedes, BMW, and Volkswagen colluded together in an effort to prevent advancements in the efficiency of cars. Basically, they agreed not to use new ways of making cars more environmentally-friendly.

    • This collusion led to the fact that they could all maximize their profits, but it lead to allocative inefficiency as consumers were not given the best potential products. Since there are quite few car-makers, when such large companies collude, it severely limits consumer choice.

    • While the firms were likely tempted to take advantage of the others, as seen in a game theory matrix, the collusion was in effect until the EU found out about it in 2019 and fined them. 

• Non-collusive Oligopoly:

  • • In Bangladesh, the top 3 telecom companies control 43.8%, 30.2%, and 22.4% of the market share each. If we were to add these up, we get 96.4% as a concentration ratio. This indicates the market is extremely concentrated.

    • The companies are able to compete on price of their cellular subscriptions, as well as non-price elements, such as amount of gigabytes, extra features, discounts on new phones, etc. 

    • An oligopoly causes a welfare loss, as the price of cellular subscriptions is above what is socially optimum. 

• Monopolistic Competition:

  • • Many restaurant chains such as McDonald's operate under monopolistic competition, where they have a little market power, slight product differentiation from competitors, and some barriers to entry (it costs quite a lot to open a restaurant but it is not impossible)

    • However, restaurants are still price makers, meaning they can set a high price and maximize profits rather than providing what is best for society. It therefore still causes a welfare loss.

• Perfect Competition:

  • • Discogs, an online marketplace to buy CDs, offers something very close to a perfect competition. 

    • Each seller of a CD sells the same (homogeneous) product, and has to provide the price, condition, and image of the CD. Consumers therefore have almost perfect information on the product, too. 

    • Since there are often lots many sellers, they are price takers as they have no market power at all. 

    • Lastly, there are no barriers to entry as anyone can register an account and start selling their own collection.

    • This makes for a very efficient market, at least for popular CDs, with very little welfare loss. 

2.12 The Market's Inability to Achieve Equity (HL Only)

• Certain countries like the US are very market-based economies, meaning they basically let the free market make most economic decisions. 

  • • This has led to high levels of inequality, much higher than many countries with more government intervention. 

    • Income inequality is higher, life expectancy is lower, and general quality of life is lower in the US than in many other Western countries.