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You are on page 1of 10

ANSWER KEY

Time allowed: 90 minutes

Honor Code Statement for Exam: I, _________________, agree to neither give nor receive

any help on this exam from other students. I understand that use of a calculator on this exam is

an academic misconduct violation. I also understand that providing answers to questions on this

exam to other students is an academic misconduct violation as is taking or receiving answers to

questions on this exam from other students. It is important to me to be a person of integrity and

that means that ALL ANSWERS on this exam are my answers. Signed

__________________________________

Part I: Multiple Choice (2 points each, 60 points in total):

1. Marginalism is

a. the best alternative that we forego when making a decision.

b. the study of how societies choose to use scarce resources.

c. a market situation in which profit opportunities are eliminated almost instantaneously.

d. the process of analyzing the additional costs or benefits arising from a decision.

2. You have decided that you want to attend a renaissance fair as King Henry VIII. You estimate

that it will cost $80 to assemble your costume. After spending $80 on the costume, you

realize that the additional pieces you need will cost you $20 more. The marginal cost of

completing the costume

a. $20

b. $60

c. $80

d. $100

3. According to the law of ________, there is a positive relationship between price and

________.

a. supply; the change in supply.

b. supply; the quantity supplied

c. demand; quantity demanded

d. demand; change in demand

4. Attempts to bypass price rationing in the market

a. are costly.

b. are easily administered.

c. are efficient.

d. are an effective tool for aiding low-income households.

5. If the number of stores renting DVDs increases by 10%, which of the following would

occur?

a. The rental price of DVDs would increase and the price of plasma TVs and movie tickets

would decrease.

b. The rental price of DVDs and the price of movie tickets would decrease, but the

price of plasma TVs would increase.

c. The rental price of DVDs and the price of movie tickets would increase, but the price of

plasma TVs would decrease.

d. The rental price of DVDs would increase, but the price of plasma TVs and movie tickets

would be unaffected.

6. If the market for blue tooth headsets is unregulated and is presently characterized by excess

demand, you can accurately predict that price will

a. increase, the quantity demanded will fall, and the quantity supplied will rise.

b. increase, the quantity demanded will rise, and the quantity supplied will fall.

c. decrease, the quantity demanded will rise, and the quantity supplied will fall.

d. decrease, the quantity demanded will fall, and the quantity supplied will rise.

7. A shortage will occur if a ________ is set ________ the equilibrium price.

a. price floor; below

b. price floor; above

c. price ceiling; above

d. price ceiling; below

8.

,

Assume that initially there is free trade. Tax revenue of $ 50 million per day will be

generated if the United States imposes a ________ tax per barrel on imported oil.

a. $25

b. $50

c. $100

d. $150

9. Demand determines price entirely when

a. demand is downward sloping.

c. supply is perfectly inelastic.

d. supply is perfectly elastic.

10. The determinants of elasticity include

a. availability of substitutes.

b. price relative to income.

c. time.

d. all of the above.

11. As you move up an indifference curve, the absolute value of the MRS

a. increases.

b. decreases.

c. remains constant.

d. initially increases and then decreases

12. We derive the demand curve for X from indifference curves and a budget constraint by

changing the

a. level of income.

b. price of X.

c. price of Y.

d. consumers preferences.

13. When a firm maximizes total product in the short run, marginal product

a. and average product are zero.

b. is positive but average product is zero.

c. is zero but average product is positive.

d. and average product are positive.

14. Both Kate and Kyle own saltwater taffy factories. Kate's factory has low fixed costs and high

variable costs. Kyle's factory has high fixed costs and low variable costs. Currently, each

factory is producing 1,000 boxes of taffy at the same total cost. Complete the following

statement with the correct answer. If each produces

a. less, their costs will be equal.

b. more, their costs will be equal.

c. more, the costs of Kate's factory will exceed those of Kyle's factory.

d. less, the costs of Kate's factory will exceed those of Kyle's factory.

15. We can derive a firm's total cost curve from its isoquant and isocost curves by varying

a. the prices of capital and labor and keeping total expenditure constant.

b. the production technologies, but keeping input prices and total expenditures constant.

c. total expenditures while keeping input prices and the production technology

constant.

d. the price of either capital or labor while keeping total expenditures and the production

technology constant.

16. Assume Dell Computer Company operates in a perfectly competitive market producing 5,000

computers per day. At this output level, marginal cost exceeds this firms price. Assuming

price exceeds average variable cost, to maximize profits Dell should

a. make no adjustments as they are already maximizing their profits.

b. increase their output.

c. decrease their output.

d. stop producing since it is earning a loss.

17. Ning has 16 working hours per day. She can produce one loaf of bread using 2 hours and

produce one gallon of milk using 4 hours. What is the opportunity cost of 1 loaf of bread in

terms of gallons of milk?

a. 8 gallons of milk.

b. 0.5 gallons of milk.

c. 2 gallons of milk.

d. 4 gallons of milk.

e. 0.4 gallons of milk.

18. Suppose the demand for fried chicken is given by Q = 1900 - 45P. The point price elasticity

at P = 20 is

a. 2

b. -0.5

c. 0.5

d. 0.9 The answer should be -0.9. Everyone will get full points from this question.

19. Suppose the demand curve for Zurcher's buses is linear. If Zurcher is charging a price that

maximizes revenue, the point price elasticity of demand

a. Strictly greater than one.

b. Equal to one.

c. Strictly smaller than 1.

d. Indeterminate.

Let the demand for bread be described by P=10-QD

Let the supply of bread be described by P=2+QS

20. Find the market equilibrium

a. Price=$3, Quantity=5.

b. Price=$4, Quantity=6.

c. Price=$6, Quantity=8.

d. Price=$6, Quantity=4.

e. Price=$4, Quantity=2.

21. If the government sets a price ceiling of $3 in the bread market. Is there a surplus or a

shortage in the bread market after the imposition of the price ceiling? How much?

a. Surplus, 2 units of bread.

b. Surplus, 6 units of bread.

c. Shortage, 6 units of bread.

d. Shortage, 2 units of bread.

e. Neither surplus nor shortage, 0 units of bread.

22. What would the price ceiling level have to be for the quantity supplied of bread to be equal to

3 units?

a. $5

b. $3

c. $4

d. $2

e. $6

23. At maximum efficiency, Mikeville is capable of producing 500 erasers and 7,500 pencils, or

0 pencils and 1000 erasers. What is the equation for Mikevilles PPF?

a. P = 10,000 10E

b. P = 10,000 15E

c. P = 15,000 10E

d. P = 15,000 15E

24. Let a firms TC = q2 + 16. The firms MC = 2q. The market demand is Pd = 55 - Qd. What is

the break-even price for this firm?

a. P=$4

b. P=$8

c. P=$32

d. P=$51

P

15

a

10

c

d

g

100

130

160

25. If the government imposes an excise tax of $10 per unit in the above market, what is the

price paid by consumers (P) and the price received by sellers (Pnet)?

a. P = $10, Pnet = $10

b. P = $15, Pnet = $5

c. P = $15, Pnet = $10

d. P = $10, Pnet = $0

26. Total tax revenue for the government after the $10 excise tax is imposed is equal to

a. area (A+B+C+D+E+F+G)

b. area (B+C+D+F+G)

c. area (A+E)

d. area (B+F)

27. What is the change in consumer surplus after the $10 excise tax is imposed?

a. Decreases by area (A+B)

b. Decreases by area (A)

c. Decreases by area (B)

d. Decreases by area (F)

e. Decreases by area (B+F)

28. The total cost function for a firm is given by: TC = 7q2 + 5q + 7. What is the average variable

cost (AVC)?

a. AVC=14q+5

b. AVC=7q2+5q

c. AVC=7/q

d. AVC=7q+5

The next two questions are based on the following information:

On the planet of Mars, the demand and supply equations for paper are:

Pd = 1000 2Qd and Ps = 100 +Qs

29. Suppose the governor of Mars wants to implement an excise tax that reduces the equilibrium

quantity to 200. What is the excise tax required?

a. $100 per unit of paper

b. $200 per unit of paper

c. $300 per unit of paper

d. $600 per unit of paper

30. Suppose the government implements the excise tax described earlier in this set of questions.

Given this tax, which curve is the more elastic curve and who pays more of the tax?

a. The supply curve is more elastic at the equilbrium. Consumers pay more of the tax.

b. The demand curve is more elastic at the equilbrium. Suppliers pay more of the tax.

c. The supply curve is more elastic at the equilbrium. Suppliers pay more of the tax.

d. The demand curve is more elastic at the equilbrium. Consumers pay more of the tax.

IMPORTANT: Explain your answers carefully. You get no credit for unsupported assertions or

guesses. Write as if you are trying to convince an intelligent person who does not already know

the answers. If your answers would not convince such a person, it will be assumed that you do

not really understand the material

Use the following graph depicting the market for widgets for this set of questions. Assume that

all demand and supply curves are linear.

a.

(2 point) Given the above graph, the initial equilibrium price is __50___ and the initial

equilibrium quantity is __100___.

b. (3 point) Given the above graph, calculate the value of consumer surplus initially and the

value of producer surplus initially.

Consumer Surplus = CS= (100-50)*100/2=2,500.

Producer Surplus = PS = 50*100/2=2,500.

Now suppose there is a technological improvement in the production of widgets that shifts

the supply curve from the initial supply curve to the new supply curve. Assume the new

supply curve is parallel to the initial one.

c. (2 points) Given the above graph, the new equilibrium price is _40_ and the new

equilibrium quantity is __120___. using slope of the demand curve.

d. (3 points) Given the above graph, what is the change in numeric value of consumer surplus

after the technological breakthrough? What is the change in the numeric value of producer

surplus after the technological breakthrough?

CS' = (1/2)($100 per unit - $40 per unit)(120 units) = $3,600. Consumer Surplus increases by

1,100.

The slope of the new supply curve should be equal to the slope of the initial supply curve, 0.5.

Using the slope and the equilibrium point, we can find the x-intercept of the new supply curve. It

should be given by 40. Then PS' = ($40 per unit)(40 units) + (1/2)($40 per unit - $0 per unit)(120

units - 40 units) = $1600 + $1600 = $3200. Producer Surplus increases by $700.

Question2 (10 points):

The market for bananas in a small, closed economy can be described by the following domestic

demand and domestic supply curves where P is the price per unit of bananas in dollars and Q is

the quantity of bananas in thousands: Domestic Demand: P = 200 - 10Q Domestic Supply: P =

20 + 20Q .

a. (2 Points) Below what price will this country import bananas if it opens its banana market to

trade with the rest of the world?

Computing the domestic equilibrium: 200 10Q = 20 + 20Q gives Q = 6, so P = $140 Hence at

prices below $140 this economy will import bananas.

b. (2 Points) In the world market for bananas the price is $40 per unit of bananas. Once this

economy opens the banana market to trade how many units will be imported or exported?

Give a number and indicate if the economy is importing or exporting. Hint: Provide units of

measurement in your answer-and be thoughtful here.

Since 40 < 140, the economy will import bananas when it opens this market to trade. To calculate

imports first calculate the quantity demanded domestically and the quantity supplied

domestically: the difference is the quantity of imports. Substituting P = 40 into domestic demand

gives: 40 = 200 10Q 10Q = 160 QD = 16 Substituting P = 40 into supply gives: 40 = 20 + 20Q

QS=1. Hence 15,000 bananas will be imported.

c. (3 Points) Suppose the government of this small economy opens the market for bananas to

trade but imposes an import quota of 9,000 bananas. What price will bananas sell for in this

small economy after the quota has been imposed?

QD - QS =9 implies that 20 P/10 (P/20 1) = 9. Therefore, (3/20)P = 12, so P = 80.

Calculate the value of deadweight loss due to having less efficient domestic producers

produce more bananas once this import quota is imposed. Hint: Show your work-be careful

to get the right "scale" of units in your final answer.

Domestic producers would produce only 1,000 bananas at the world price, whereas with the

quota they produce QS = 80/20 1 = 3 = 3,000 bananas (since Q is in thousands). Hence the

deadweight loss is (1/2)*(80-40)*(3-1)*1000 = (1/2)*40*2*1000 = $40,000

Question3 (20 points):

Suppose Alice has preferences for xylophones (x) and yachts (y) with utility given by the

following equation where U is Alice's level of utility measured in utils, x is number of

xylophones and y is number of yachts: U = x3y. With this utility, Alice has the following

marginal utilities: MUx = 3x2y MUy = x3.

a. (3 Points) Suppose the price of a xylophone is $1,000, and the price of a yacht is $5,000.

Alice currently has an income of $100,000. What is Alices optimal consumption bundle?

The budget constraint is given by x+5y=100. MRS= -MUx/ MUy=-3y/x. Optimal bundle is

given by MRS=-px/py. Therefore, 3y/x=1/5, so x=15y.

Plugging this into the budget constraint, we get 15y+5y=100. Therefore, y=5 and x=75.

b. (3 Points) Assume that the price of a yacht increases to $6,666.66 (or $20,000/3). What is

Alices optimal consumption bundle?

The budget constraint is given by x+(20/3)y=100. The optimality condition, MRS=-px/py, is

given by 3y/x=1/(20/3), so x=20y.

Plugging this into the budget constraint, we get 20y+(20/3)y=100, so (80/3)y=100; therefore,

y=300/80=, or y=75/20=3.75. Therefore, x=75.

c. (4 Points) Discuss the resulting income and substitution effects with this price change on

the consumption of xylophones and yachts? Do not use any numbers.

Price of y increases, so our real income decreases. Therefore, income effect says consume less x

and less y. Since y becomes relatively more expensive compared to the past, we would like to

substitute our y consumption with x. Therefore, substitution effect says consume more x and less

y. Overall, our y consumption will decrease and x consumption will depend on income and

substitution effects. In this example, our x consumption stays the same, which implies that

income and substitution effects offset each other and none of them dominates.

d. (10 Points) Find the numerical values of income effect and substitution effects for

xylophones and yachts. (Note: You can use fractions. Your answer might include the four

arithmetical operations of fractions, for example 2/5-3/7*5/19 is an acceptable answer.)

In order to find intermediary point, we need to find a budget line parallel to the new one and

tangent to the old indifference curve. This means that we are looking for an optimal decision

with new prices at the old indifference curve. The old utility is given by 753*5. With the new

prices x=20y. Therefore, (20y)3*y should be equal to 753*5 in the intermediary point. Therefore,

203y4=753*5. Therefore, y4=(75/20)3*5, so y4=(3.75)3*5. Therefore, y should be around 4. X

should be around 20*4=80. (75,5) to (80,4) gives the substitution effect. (80,4) to (75,3.75) gives

the income effect.

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