Ec102 Economics B: Summer 2008 Examination: 2007/2008 Syllabus Only - Not For Resit Candidates

Ec102 Economics B: Summer 2008 Examination
2007/2008 Syllabus only not for resit candidates

Instructions to candidates:
Time allowed: 3 hours.
Write all of your answers on these sheets, in the spaces provided. For multiple choice questions,
enter your answer in the blank. For short answer questions, write your answer in the box
provided. Material written outside of these blanks and boxes will not be considered part of your
answer. Use the back of the exam sheets as extra scratch space for computations as necessary.
The exam has 3 sections: A: Easy multiple choice (24 questions); B: Harder multiple choice (12
questions); C: Short answer (10 questions).
Answer all of the questions in all of the sections.
Calculators are not allowed in this examination.
Enter your candidate number here: ___________________
LSE 2008/Ec102
Page 1 of 22
Section A: Easy multiple choice (24 questions, each worth 1 point). Choose the one alternative that best
completes the statement or answers the question. Write the letter of this alternative in the blank space at the top
of the question.
Question #1: __________
Question #2: __________
Widgets are produced and sold competitively. They are not

an example of a Giffen good. The price and quantity
sold of widgets suddenly falls. This could happen
because:
Beer is not a Giffen good. A long hot summer increases

the demand for beer. At the same time, a tax is placed
on the sale of beer (paid by producers). As result of
these two events, if beer is sold competitively:
a) Equilibrium price and quantity will rise.
a) Technological change increases productivity in the

widget industry.
b) Equilibrium price will rise; quantity will fall.
b) The prices of inputs used in producing widgets fall.
c) Equilibrium price will fall; quantity will rise.
c) Either (a) or (b) could make this happen.
d) Equilibrium price will rise; it is not possible to

determine what happens to equilibrium quantity with
the information provided.
d) Neither (a) nor (b) could make this happen.
e) Equilibrium quantity will fall; it is not possible to

determine what happens to equilibrium price with
the information provided.
Question #3: __________

If the demand for widgets is inelastic, total revenue (i.e. P
times Q) will _______ if the price of widgets increases:
a) increase
b) decrease
c) remain the same
d) None of the above is known with certainty; it
depends upon the specific value of the elasticity.
LSE 2008/Ec102
Question #4: __________

You have an offer of a job paying 10/hour. The relevant
range of potential wages are uniformly distributed
between 5 and 15 per hour. Assuming the original
offer stays open, what is your expected gain from
engaging in a search for another offer? (Do not
consider the cost of search).
a)
2.50
b)
c)
$0
d)
1.25
Page 2 of 22
of the question.
Question #5: __________
Figure 1
$/wk
200
Refer to Figure 1, which depicts a consumers decisionmaking regarding purchases of shelter and other
goods. Which price-quantity combinations for the
consumers demand for shelter are consistent with the
figure?
a) P = $200, Q = 40.
b) P = $40, Q = 23.
c) P = $25, Q = 20.
20 23
331/3
d) P = $5, Q = 23.
40
Shelter
Question #6: __________
Question #7: __________
goods. Which statement is true about shelter in the
figure?
a) The demand curve is negatively sloped across the
prices shown.
goods. Which statement is true about the consumers
demand for shelter?
a)
Over the range of prices shown, it is always elastic.
b)
The demand curve is positively sloped across the

prices shown (i.e. the good is a Giffen good).
b)
Over the range of prices shown, it is always inelastic.
c)
c)
The price consumption curve, if drawn, would be a

horizontal line.
It is neither consistently elastic nor inelastic over the

range of prices shown.
d)
Both (a) and (b) are true.
e)
Both (b) and (c) are true.
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Page 3 of 22
of the question.
Question #8: __________
Question #9: __________
Say automobile insurance is priced so that the fee paid to

purchase insurance equals the average payout (i.e. the
probability of an accident times the damages/costs covered
by the insurance in the event of an accident) under the
assumption that all drivers buy insurance. Good drivers
have fewer accidents than bad drivers, but both groups
always drive as well as they can. If buying insurance is not
compulsory:
a) moral hazard may occur, as good drivers tend not to buy
insurance.
b) moral hazard may occur, as bad drivers tend not to buy
insurance.
c) adverse selection may occur, as good drivers tend not to
buy insurance.
d) adverse selection may occur, as bad drivers tend not to
buy insurance.
Geometrically, the average product:

a) is the slope of the line joining the origin to the
corresponding point on the total product curve.
b) at any point is the slope of the total product curve at
that point.
c) is that point at which the total product curve exhibits
diminishing returns.
d) at any point is the slope of the total product curve
times the level of output.
Question #10: __________
Question #11: __________
I get 200 revenue from the sale of my product each day. I

rent the factory that I use for 90 per day. The raw
materials of the operation cost 115 a day. I do all the
work myself. I can earn 30 a day if I work for others.
Each day my:
a) accounting profit = -5 and economic profit = -35.
According to the Coase Theorem, when the parties

affected by externalities can costlessly negotiate with
one another:
a) an efficient outcome results if and only if the liability
is placed on the party with the lowest cost of
adjustment.
b) an efficient outcome results no matter how the law
assigns responsibility.
c) the correct way to deal with a negative externality is
to tax it.
d) the correct way to deal with a negative externality is
to subsidize it.
b)
accounting profit = -35 and economic profit = -35.
c)
accounting profit = 25 and economic profit = -5.
d)
accounting profit = 110 and economic profit = -30.
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Page 4 of 22
of the question.
Question #12: __________

Given a constant c > 1, the defining characteristic of
increasing returns to scale may be summarized as:
a) F(cK,cL) > cF(K,L)
b) F(cK,cL) = cF(K,L)
c) F(cK,cL) < cF(K,L)
d) Q = min(cK,cL)
Question #13: __________

Say the British bought 10 South African Rand in 2000
and buys 11 Rands today. Cumulative inflation since
2000 is 10% in the UK and 40% in South Africa.
Comparing the two currencies, we can say that:
a) the UK real exchange rate has appreciated.
b) the UK real exchange rate has depreciated.
c)
d)
e)
f)
the South African real exchange rate has depreciated.

the South African real exchange rate has appreciated.
(a) and (c) are both true.
(b) and (d) are both true.
g)
h)
(a) and (d) are both true.

(b) and (c) are both true.
Question #14: __________
Question #15: __________
The quantity theory of money assumes that the demand for

real money balances
a) depends on both the nominal interest rate and real
income.
b) depends only on the nominal interest rate.
c) depends on both the real interest rate and real
income.
d) depends only on real income.
e) depends on both the nominal interest rate and
nominal income.
Consider a fractional reserve banking system in which an

individual who usually holds 100 in currency decides
to deposit his money in a bank. The money supply
expands when the bank:
a) accepts the deposit.
b) lends part of the 100 deposit out, holding a fraction
as reserves.
c) (a) and (b) are both true.
d) Never, i.e. the deposit of 100 formerly held as
currency in the banking system will never change
the money supply.
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Page 5 of 22
of the question.
Question #16: __________

Box A1: Take the following information as true.
An economy produces two goods, apples and oranges.
The quantities and price (per unit quantity) of these goods
produced and consumed in two years is given in the table
below. There is no I, G or X-M. All output is consumed.
Apples
Refer to Box A1. The ratio of nominal GDP in 2005 to

nominal GDP in 2000 is:
a) 2/5
b) 1/1
c) 5/2
Oranges
Year
Quantity
Price
Quantity
Price
2000
2005
2.5
2.5
d) None of the above.
Question #17: __________

Refer to Box A1. Using 2000 base year prices, the ratio of
real GDP in 2005 to real GDP in 2000 is:
a) 3/2.
b) 2/3.
c) 4/5.
d) 5/4.
e) None of the above.
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Question #18: __________

Refer to Box A1. A Paasche price index for the economy
would find the ratio of prices in 2005 to those in 2000
to be:
a) 5/2.
b) 2.
c) 5/3.
d) 5/4.
e) None of the above.
Page 6 of 22
of the question.
Question #19: __________

According to the sticky-wage model of economic
fluctuations, when the price level is lower than
expected, workers get a (i) _____ real wage than
expected and (ii) ______ workers are hired than
expected (indicate which words go on the blanks
labelled (i) and (ii)).
Question #20: __________

To achieve the Golden Rule level of the capital stock, a
policymaker must determine which steady-state
savings rate produces:
a) the largest MPK.
b) the smallest depreciation rate.
a)
(i) lower; (ii) more
c) the largest output per worker.
b)
(i) lower; (ii) fewer
d) the highest savings per worker.
c)
(i) higher; (ii) more
e) the largest consumption per worker.
d)
(i) higher; (ii) fewer
Question #21: __________

If s is the rate of job separation and f the rate of job finding,
then in a steady state where the unemployment rate is
constant, the unemployment rate equals:
a) f/(f+s)
b) (f+s)/f
c) (s+f)/s
d) s/(s+f)
Question #22: __________

If an economy has a job separation rate of .02 each month
and a job finding rate of .08 each month (think of these
events as taking place once a month in the middle of
the month), and a total economically (market) active
population of 100 million, then how many individuals
lose/leave their jobs each month?
a) 1.6 million
b) 2 million.
c) 6.4 million.
d) 8 million.
e) 0.4 million.
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of the question.
Question #23: __________

GNP equals GDP (i) _____ the income earned
domestically by foreign factors of production, (ii)
______ the income earned overseas by domestically
owned factors of production (indicate which words go
on the blanks labelled (i) and (ii)):
a) (i) plus, (ii) minus
b) (i) minus, (ii) plus
c) (i) plus, (ii) plus
d) (i) minus, (ii) minus
Question #24: __________

In a small open economy in which net factor income and
net unilateral transfers are both 0, if exports equal 20
billion, imports equal 30 billion, and national saving
(public and private) equals 25 billion, then the change
in net foreign assets equals:
a) 25 billion.
b) -25 billion.
c) 10 billion
d) -10 billion
e) 45 billion
f)
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-45 billion
Page 8 of 22
Section B: Harder multiple choice (12 questions, each worth 3 points). Choose the one alternative that best
completes the statement or answers the question. Write the letter of this alternative in the blank space at the top of
the question.
Question #1: __________
Question #2: __________
Speedy Copying is minimizing the long run cost of

producing copies in a perfectly competitive industry in
long run equilibrium. The rental cost of one of their
machines is 20 per day and the wage rate is 60 per
day. The marginal product of a machine in Speedy
Copying is 1000 copies per day. What must be the
marginal product of one of their workers?
6000 copies per day.
There is not enough information given to be able to
tell.
Speedy Copying is minimizing the long run cost of

producing copies in a perfectly competitive industry in
long run equilibrium. The rental cost of one of their
machines is 20 per day and the wage rate is 60 per
day. The marginal product of a machine in Speedy
Copying is 1000 copies per day. What is Speedy
Copyings average cost of production?
a) .01 per copy.
b) .02 per copy.
c) .03 per copy.
d) .04 per copy.
e) .08 per copy.
f) There is not enough information given to be able to
tell.
Question #3: __________
Question #4: __________
From the early 1300s to the mid-1400s, the real wage in the UK
roughly doubled. If we take the UK capital stock as being
constant and assume the production function was constant
returns to scale Cobb-Douglas with a constant technology
parameter A and a capital share of 1/3, then we can infer
that the ratio of the real rental in the mid-1400s to the real
rental in the early 1300s was approximately:
From the early 1300s to the mid-1400s, the real wage in the UK
roughly doubled. If we take the UK capital stock as being
constant and assume the production function was constant
returns to scale Cobb-Douglas with a constant technology
parameter A and a capital share of 1/3, then we can infer
that the ratio of real output in the mid-1400s to real output in
the early 1300s was approximately:
a)
b)
c)
d)
e)
f)
a)
b)
c)
d)
e)
f)
g)
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21/3
22/3
23
23/2
2-1/3
2-3
None of the above.
a)
b)
c)
d)
e)
f)
g)
21/3
22/3
23
23/2
2-1/3
2-3
None of the above.
Page 9 of 22
the question.
Question #5: __________
Box B1: Take the following information as true.

In Littletown, 3 citizens enjoy seeing fireworks on Guy
Fawkes Day. Their individual demands for fireworks are given
by:
Elmers demand: P = 20 Q
Ethels demand: P = 10 - .6Q
Ediths demand: P = 10 - .4Q
Fireworks displays are a public good, i.e. non-rival and nonexcludable. Fireworks are produced and sold competitively at
a constant marginal cost = average cost = 18 per firework.
In answering questions associated with this box, assume
that fireworks are a continuous variable (i.e. not necessarily
limited to integer values), so that surpluses can be calculated
using simple formulas for the areas of polygons.
Refer to Box B1. The town mayor decides to maximize the

social welfare associated with fireworks. He puts on a
display with:
a)
0 fireworks.
b)
1 firework.
c)
2 fireworks.
d)
4 fireworks.
e)
10 fireworks.
f)
11 fireworks.
g)
12 fireworks.
h)
14 fireworks.
i)
None of the above.
Question #6: __________

Refer to Box B1. If the town mayor puts on a display that
maximizes the social welfare associated with fireworks, total
social surplus (in ) will be given by:
a)
0.
b)
2.
c)
4.
d)
40.
e)
76.
f)
121.
g)
198.
h)
400.
i)
None of the above.
LSE 2008/Ec102
Question #7: __________

Refer to Box B1. Say the town mayor does not put on a public
fireworks display, and each citizen buys fireworks
themselves, maximizing their own individual utility. The
town will end up seeing a total of:
a) 0 fireworks.
b)
1 firework.
c)
2 fireworks.
d)
4 fireworks.
e)
10 fireworks.
f)
11 fireworks.
g)
12 fireworks.
h)
14 fireworks.
i)
None of the above.
Page 10 of 22
the question.
Question #8: __________
Question #9: __________
Refer to Box B1. Say the town mayor does not put on a public
fireworks display and each citizen buys fireworks
themselves, maximizing their own individual utility. The
towns total consumer surplus (in ) from the resulting
display of fireworks will be given by:
Refer to Box B2. If lenders were to offer loans at an

interest rate of i ( 0 and 1), the total demand for
such loans will be:
a)
2000
a)
b)
c)
d)
e)
f)
g)
h)
i)
b)
2000*(1-i)
c)
2000*(1-i) + 2000*(1/2)*i
d)
2000*(1-i) + 2000*(1/2)*(i-1)
e)
1000*(1-i) + 1000*i
f)
1000*(1-i) + 1000*(1/2)*i
g)
None of the above.
0.
2.
4.
40.
76.
121.
198.
400.
None of the above.
Box B2: Take the following information as true.

There are two types of investment projects. Safe
investment projects yield an output q in all states of the world.
Risky investment projects yield an output of 2q in the good
state of the world (probability = ), and 0 in the bad state of
the world (probability = ). There are 2000 potential
investors. Each investor knows of two projects, a safe project
of type q and a risky project of the same type q (but with the
risky payoffs). Quality q is distributed uniformly on [1,2].
Each project requires an investment of 1. There is no equity.
In lending money, lenders think about the average (across
all states of the world) that they receive from borrowers minus
the amount they lend (i.e. 1). If ibar is this net return, then S =
2000*ibar. For example, if lenders receive an average
payment of 1.25, then ibar = .25 & S = 500.
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Box B2 continued.
To simplify the problem, we assume that investors have a
conscience, in the following sense:
(1) If investors can borrow and make a positive ( 0) return
on a safe project, they will do so, even if the risky project
yields a higher average return. In this case, they will not
invest in the risky project.
(2) If investors cannot borrow and make a positive ( 0)
return on the safe project, they will invest in the risky project if
it yields a positive ( 0) average return. In this case, they will
not invest in the safe project.
(3) If both the safe and risky projects yield negative (i.e. < 0)
average returns, the investors do not borrow or invest in any
project.
Page 11 of 22
the question.
Question #10: __________

Refer to Box B2. If lenders were to offer loans at an
interest rate i ( 0 and 1), meeting the demand for
such loans (whatever it might be), the average net
return on such loans, ibar, would be given by:
a) i
b) (1-i)
c) i + (i-1)/4
d) i*(1-i)/2
e) i + i*(i-1)/2
f) i + i*(1-i)/2
g) 1/2
h) None of the above.
Question #11: __________

Refer to Box B2. Does credit rationing occur (i.e. there is
no interest rate i ( 0 and 1) at which demand equals
supply)?
a) Yes, credit rationing occurs.
b) No, D = S at i = 1/2.
c) No, D = S at i = 4/5.
d) No, D = S at i = 1/5.
e) No, D = S at i = 2/5.
f) No, D = S at i = 0.
g) No, D = S at i = 1.
h) No, D = S at all interest rates i ( 0 and 1).
i) None of the above.
Question #12: __________

Refer to Box B2. As the interest rate i rises, the average
return on loans (ibar) is influenced by:
a) Moral hazard, but not adverse selection.
b) Adverse selection, but not moral hazard.
c) Moral hazard AND adverse selection.
d) There is moral hazard (no adverse selection), but the
average return on loans does not in fact change as i
rises.
e) There is adverse selection (no moral hazard), but the
rises.
f) There is moral hazard AND adverse selection, but the
rises.
g) None of the above.
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Section C: Short answer (10 questions, each worth 4 points). Write your answer to each question in the question
box. You do not necessarily have to fill the entire box.
1. If marginal cost is always zero, monopoly profit maximization equals revenue maximization. True
or false. Explain.
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Page 13 of 22
2. Why does AVC reach its minimum before (i.e. at a lower level of output) ATC reaches its minimum?
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Page 14 of 22
3. Assume that preferences satisfy the standard assumptions (transitivity, nonsatiation, convexity and
completeness). If the price consumption curve for shoes is a horizontal line, the income elasticity of
demand for the composite of all other goods must be negative. True or false. Explain. (Hint: Draw the
price consumption curve for shoes, with the composite of other goods on the vertical axis. Think about
the substitution & income effects for shoes and what that tells you about the income elasticity of demand
for the composite).
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Page 15 of 22
4. I take my children to a carnival and find that they have an offer where our first two rides are free. Is
it possible for the carnival to actually SELL more tickets using this offer (i.e. the number of tickets I buy
and pay for with the offer is greater than the number I would have bought without it)? Explain. (Hint:
think about this question using a diagram with quantity of rides on the x-axis and expenditure on all
other goods on the y-axis; draw indifference curves and budget constraints).
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Page 16 of 22
5. I consume two goods, Ice Cream and Biscuits. I shop once a week, spending 100, at either
Sainsbury or Tesco. Interestingly, Ive noticed that the bundle I purchase when I visit Tesco costs more
at Sainsbury. Similarly, the bundle I purchase when I visit Sainsbury costs more at Tesco. And yet, I
find that I get the same utility from shopping at either store (i.e. the Sainsbury shopping bundle gives me
the same utility as the Tesco shopping bundle). Explain how it is possible for all of these statements to
be true. (Hint: draw a single indifference curve and have me maximize utility given a 100 budget and
different prices in the two stores).
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Page 17 of 22
6. I recently read a newspaper article that pointed out that the United States, by itself, accounts for all
of the net international lending in the world (i.e. the net international borrowing of the US is equal to
the net international lending of the rest of the world). The article suggested that this was quite unusual
for a net international borrower and reflected the USs extraordinary demand for loans. Comment on
both sentences (you do not need any knowledge of the US to answer this question).
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Page 18 of 22
7. Evaluate the impact of the introduction of taxes paid by producers on the sale of all goods and
services on the long run price level (including the taxes) in an economy where nothing else changes
(among other things being constant, think of output remaining at full employment, and assume no
distortionary effects of the taxes). (Hint: Think about the equations determining the aggregate price level
in an economy, holding everything else constant. This is a macro question, not a micro question.)
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Page 19 of 22
8. Central Bank A wants to stabilize the price level (i.e. keep it at its initial level). Central Bank B wants to
keep output near full employment (i.e. without waiting for the economys own long run adjustment).
Compare their response to an exogenous increase in money demand for each level of i & Y in an
economy which is initially at full employment with an upward sloping short run AS curve. Inflation
expectations are not a part of the problem, i.e. just take them as being 0.
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Page 20 of 22
9. Consider two economies, Dry and Wet. The capital depreciation rate is higher in Wet, because of
the higher levels of rainfall. Otherwise, the two economies have the same rate of population (and
labour force) growth and the same Cobb-Douglas production function (i.e. with the same, constant, A &
parameters). Statement: The Golden-Rule investment/savings rate is lower in Wet. Is this
statement true or false? Explain.
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10. Consider two economies, Dry and Wet. The capital depreciation rate is higher in Wet, because of
the higher levels of rainfall. Otherwise, the two economies have the same rate of population (and labour
force) growth and the same Cobb-Douglas production function (i.e. with the same, constant, A &
parameters). Statement: The Golden-Rule capital/labour ratio is lower in Wet. Is this statement true or
false? Explain. (Hint: Draw a Solow Y/L Golden Rule diagram for the two economies; see if anything
differs between them).
LSE 2008/Ec102
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Ec102 Economics B: Summer 2008 Examination: 2007/2008 Syllabus Only - Not For Resit Candidates

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Ec102 Economics B: Summer 2008 Examination: 2007/2008 Syllabus Only - Not For Resit Candidates

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Ec102 Economics B: Summer 2008 Examination

2007/2008 Syllabus only not for resit candidates

Time allowed: 3 hours.

Answer all of the questions in all of the sections.

Calculators are not allowed in this examination.

Enter your candidate number here: ___________________

Question #1: __________

Question #2: __________

Widgets are produced and sold competitively. They are not

Beer is not a Giffen good. A long hot summer increases

a) Technological change increases productivity in the

b) Equilibrium price will rise; quantity will fall.

b) The prices of inputs used in producing widgets fall.

c) Equilibrium price will fall; quantity will rise.

c) Either (a) or (b) could make this happen.

d) Equilibrium price will rise; it is not possible to

d) Neither (a) nor (b) could make this happen.

e) Equilibrium quantity will fall; it is not possible to

Question #3: __________

Question #4: __________

Question #5: __________

Question #6: __________

Question #7: __________

Over the range of prices shown, it is always elastic.

The demand curve is positively sloped across the

Over the range of prices shown, it is always inelastic.

The price consumption curve, if drawn, would be a

It is neither consistently elastic nor inelastic over the

Both (a) and (b) are true.

Both (b) and (c) are true.

Question #8: __________

Question #9: __________

Say automobile insurance is priced so that the fee paid to

Geometrically, the average product:

Question #10: __________

Question #11: __________

I get 200 revenue from the sale of my product each day. I

According to the Coase Theorem, when the parties

accounting profit = -35 and economic profit = -35.

accounting profit = 25 and economic profit = -5.

accounting profit = 110 and economic profit = -30.

Question #12: __________

Question #13: __________

the South African real exchange rate has depreciated.

(a) and (d) are both true.

Question #14: __________

Question #15: __________

The quantity theory of money assumes that the demand for

Consider a fractional reserve banking system in which an

Question #16: __________

Refer to Box A1. The ratio of nominal GDP in 2005 to

d) None of the above.

Question #17: __________

Question #18: __________

Question #19: __________

Question #20: __________

(i) lower; (ii) more

c) the largest output per worker.

(i) lower; (ii) fewer

d) the highest savings per worker.

(i) higher; (ii) more

e) the largest consumption per worker.

(i) higher; (ii) fewer