AP Microeconomics Review Guide: All 6 Units Explained

AP Microeconomics is a graphing exam with some economic vocabulary attached. If you can draw the six key graphs (supply and demand, perfect competition, monopoly, monopolistic competition, oligopoly with game theory, factor markets) without thinking, the exam becomes an exercise in labeling.

This guide walks through all 6 units, the six graphs you must master, the rule 'MR equals MC for profit maximization,' and the common mistakes that cost points. Learn the graphs cold.

What the exam looks like

Exam structure and scoring

• 2 hours 10 minutes total.
• Section I: 60 multiple choice in 70 minutes. Worth 66 percent.
• Section II: 3 free response in 60 minutes. Worth 33 percent.
• FRQ #1: long question worth most points (10+). Usually requires a graph.
• FRQs #2 and #3: shorter (5-6 points each).
• 10-minute reading period before you start writing.
• Calculator permitted (but math is usually simple).
• Graders reward correct LABELED graphs. A drawing with no labels earns little.

Unit 1: Basic Economic Concepts

What you need to know (12-15 percent)

• Scarcity: resources are limited, wants are unlimited. The fundamental economic problem.
• Opportunity cost: the value of the next-best alternative forgone. When choosing A, the opportunity cost is what you give up by not choosing B.
• Production Possibilities Curve (PPC): shows max output combinations of two goods given fixed resources. Points ON the curve are efficient, INSIDE are inefficient (unemployment), OUTSIDE are unattainable.
• PPC bowed outward (concave): increasing opportunity cost (specialization). Linear: constant opportunity cost.
• Comparative advantage: a country has comparative advantage in a good if it has the LOWER OPPORTUNITY COST of producing it. Different from absolute advantage (higher productivity).
• Specialization and trade: countries gain by specializing where they have comparative advantage and trading for other goods.
• Economic systems: market economy (prices guide decisions), command economy (government decides), mixed economy (combination).

Unit 2: Supply and Demand

What you need to know (20-25 percent, the biggest unit)

Demand and supply

• Law of demand: as price rises, quantity demanded falls (inverse relationship). Downward-sloping curve.
• Shifters of demand: income (normal vs inferior goods), prices of related goods (substitutes, complements), tastes and preferences, expectations, number of buyers.
• Law of supply: as price rises, quantity supplied rises (direct relationship). Upward-sloping curve.
• Shifters of supply: input prices, technology, number of sellers, taxes and subsidies, expectations.
• Equilibrium: intersection of supply and demand. Market-clearing price and quantity.
• When demand shifts: P and Q move in SAME direction. When supply shifts: P and Q move in OPPOSITE directions.

Elasticity

• Price elasticity of demand (PED): percent change in Qd / percent change in P. If greater than 1: elastic (responsive). Less than 1: inelastic (unresponsive).
• Elastic: luxuries, many substitutes, long time horizon. Inelastic: necessities, few substitutes, short time horizon.
• Revenue and elasticity: if demand is elastic, raising price DECREASES revenue. If inelastic, raising price INCREASES revenue.
• Income elasticity: positive for normal goods. Negative for inferior goods.
• Cross-price elasticity: positive for substitutes, negative for complements.
• Price elasticity of supply (PES): responsiveness of quantity supplied to price change.

Government intervention

• Consumer surplus: area below demand curve, above price (the benefit to consumers).
• Producer surplus: area above supply curve, below price (the benefit to producers).
• Tax on sellers: shifts supply up by tax amount. Price rises (but not by full tax), quantity falls. Creates deadweight loss.
• Price ceiling (below equilibrium, e.g., rent control): shortage. Price floor (above equilibrium, e.g., minimum wage): surplus.
• Tariffs (tax on imports): domestic price rises, domestic producers gain, consumers lose, imports fall, deadweight loss.
• Subsidies: government pays producers. Shifts supply down. Quantity rises, consumer price falls, producer effective price rises.

Unit 3: Production, Cost, and Perfect Competition

What you need to know (22-25 percent)

Production and costs

• Total product (TP): total output. Marginal product (MP): additional output from one more worker. Average product (AP): TP / labor.
• Law of diminishing marginal returns: as you add more of one input (labor) to a fixed input (capital), MP eventually decreases.
• Short-run costs: Fixed (FC, don't vary with output), Variable (VC, vary with output). Total Cost = TC = FC + VC.
• Marginal cost (MC): cost of one more unit. MC = change in TC / change in Q.
• Average Fixed Cost (AFC), Average Variable Cost (AVC), Average Total Cost (ATC = AFC + AVC).
• MC curve cuts AVC and ATC at their minimums.
• Long-run: all costs are variable. Economies of scale (LRATC falls as firm grows), diseconomies (LRATC rises).

Perfect competition

• Characteristics: many firms, identical products, free entry/exit, perfect information.
• Firm is a 'price taker.' Demand curve for the firm is HORIZONTAL at the market price.
• For PC firm: P = MR = AR = demand.
• Profit maximization: produce where MR = MC. In PC, that's where P = MC.
• Short-run profit: if P > ATC at Q*, firm earns profit. If P = ATC, break-even. If P < ATC but P > AVC, incurs loss but continues (covers variable costs). If P < AVC, SHUT DOWN (losses are minimized at 0 output).
• Long-run: economic profit attracts entry, prices fall. Losses drive exit, prices rise. Long-run equilibrium: P = minimum ATC, ZERO economic profit.
• Efficiency: allocative (P = MC, producing the right goods) and productive (at minimum ATC).

Unit 4: Imperfect Competition

What you need to know (15-22 percent)

Monopoly

• Characteristics: one firm, no close substitutes, barriers to entry, significant market power.
• Monopoly faces entire market demand (DOWNWARD SLOPING).
• MR is BELOW demand and falls twice as fast for linear demand.
• Profit max: MR = MC at Q*. Charge the price FROM THE DEMAND CURVE at that Q* (not from MR).
• Profit: (P - ATC) * Q. Rectangle on the graph.
• Monopoly inefficient: P > MC at equilibrium (allocative inefficiency). Produces LESS and charges MORE than PC. Creates deadweight loss.
• Natural monopoly: industry where economies of scale are so large that one firm can serve market cheaper than multiple. Utilities. Regulated via price controls.
• Price discrimination: charging different prices to different customers. Requires market power, ability to separate customers, prevent resale. Examples: movie tickets (student/senior discounts), airlines.

Monopolistic competition

• Characteristics: many firms, DIFFERENTIATED products, free entry/exit.
• Downward-sloping demand (some market power). MR below demand.
• Profit max: MR = MC at Q*. Charge P from demand curve.
• Short-run profit possible, but in long run, entry eliminates it. Long-run equilibrium: P = ATC (tangent), zero economic profit.
• Examples: restaurants, hair salons, clothing brands.
• Inefficient: excess capacity (produces below min ATC) and P > MC (allocative inefficiency).

Oligopoly and game theory

• Characteristics: few firms, interdependence, strategic behavior.
• Examples: airlines, auto makers, cell phone carriers.
• Firms may collude (form cartel, like OPEC) or compete.
• Game theory: payoff matrix shows outcomes for each combination of strategies.
• Dominant strategy: best choice regardless of what other player does.
• Nash equilibrium: both players play best response to each other. No one wants to unilaterally change.
• Prisoner's Dilemma: individually rational choices lead to collectively worse outcome.

Unit 5: Factor Markets

What you need to know (10-13 percent)

• Factor markets: markets for resources (labor, capital, land) used to produce goods.
• Marginal Revenue Product (MRP): additional revenue from one more unit of input. MRP = MP * P (in perfect competition output market).
• Marginal Factor Cost (MFC): cost of one more unit of input. In competitive labor market, MFC = wage.
• Firm hires input until MRP = MFC.
• Shifters of labor demand (MRP): price of output, productivity of labor, prices of other inputs.
• Shifters of labor supply: immigration, taxes/subsidies, demographics.
• Monopsony: one buyer of labor (company town, some hospitals). Faces upward-sloping supply curve. MFC above supply. Hires fewer workers, pays lower wage than competitive market.
• Minimum wage in monopsony: can INCREASE both wages AND employment (opposite of competitive market).

Unit 6: Market Failure and Government

What you need to know (8-13 percent)

• Externality: cost or benefit that affects third parties.
• Negative externality (pollution): Marginal Social Cost > Marginal Private Cost. Market overproduces. Graph: MSC above supply curve.
• Positive externality (education, vaccines): Marginal Social Benefit > Marginal Private Benefit. Market underproduces. Graph: MSB above demand curve.
• Pigouvian tax: tax equal to external cost. Internalizes the externality. Reduces production to socially optimal quantity.
• Pigouvian subsidy: subsidy equal to external benefit. Increases production to socially optimal.
• Coase theorem: if property rights are clear and transaction costs low, private parties can negotiate solution without government.
• Public goods: non-rival (my use does not reduce yours) and non-excludable (cannot keep non-payers out). National defense, lighthouses. Market undersupplies; government provides.
• Free rider problem: people benefit from public goods without paying.
• Income inequality: Lorenz curve (cumulative income vs population). Gini coefficient (0 = equal, 1 = inequality). Ranges roughly 0.25 (Scandinavia) to 0.5+ (some developing countries).

The six graphs you must draw in your sleep

1. Supply and demand: show shifts and new equilibria. Label deadweight loss from tax.
2. Perfectly competitive firm AND market side-by-side: show firm at profit, loss, or break-even.
3. Monopoly: downward-sloping demand, MR below, MC, ATC. Show P, Q, profit rectangle, deadweight loss.
4. Monopolistic competition in long-run equilibrium: demand tangent to ATC at Q where MR = MC.
5. Game theory payoff matrix: identify dominant strategies and Nash equilibrium.
6. Factor market (labor): MRP, MFC. Show competitive vs monopsony.

How to score a 5 on AP Micro

1. Master the six graphs. You will draw them again and again. Do them cold. Label axes (P and Q), curves, equilibrium points, profits/losses, deadweight loss.
2. Remember the profit-max rule: MR = MC. ALWAYS. P = MC only in perfect competition (because P = MR there).
3. Know the differences between market structures. Perfect competition: horizontal demand, zero long-run profit. Monopoly: downward demand, MR below, sustained profit possible. Monopolistic competition: tangent in long run, excess capacity. Oligopoly: game theory.
4. Practice shifting curves and predicting changes. When supply shifts, P and Q move opposite directions. When demand shifts, P and Q move same direction.
5. Learn comparative advantage. Calculate opportunity costs, compare, determine who should specialize.

Common mistakes

• Drawing monopoly demand as horizontal. It is DOWNWARD SLOPING. A monopoly faces the entire market demand.
• Forgetting that MR = MC is the profit-max rule for ALL market structures. P = MC only works in perfect competition (because P = MR).
• Mixing up shutdown and break-even. Shutdown: P below AVC. Break-even: P equals minimum ATC.
• Not labeling graphs. Graders reward labels, not pretty curves. Label EVERYTHING: axes, curves, P*, Q*, profits, deadweight loss.
• Forgetting monopoly pricing rule. Profit max at MR = MC gives Q*. PRICE comes from the DEMAND CURVE at that Q*, not from MR.
• Confusing comparative advantage with absolute advantage. Lower opportunity cost = comparative. Higher productivity = absolute.
• Drawing MR above demand. MR is ALWAYS BELOW demand (except in perfect competition where they are the same).
• Using negative reinforcement phrasing. Subsidies are NOT reducing price. They shift supply, price in market falls, producer receives MORE (price plus subsidy).

Draw the graph. Label everything. Find MR = MC. Price from the demand curve. Profit/loss rectangle. Deadweight loss. That is AP Micro.