Week 1 – Economic: Foundations and Models

Q1.What happens to a country that produces a combination of goods that uses all the resources
available in the economy?
a. The country is operating on its production possibility frontier.
b. The country is maximising its opportunity cost.
c. The country has eliminated scarcity.
d. All of the above options are correct.

Q2. Refer to the graph below. Each graph represents one country. Which country in this graph has a
comparative advantage in the production of shirts?
a. Country A
b. Country B
c. Neither country
d. Both countries

Q3. Which of the following statements best describes scarcity?

a. Scarcity studies the choices people make to attain their goals.
b. Scarcity is a situation where unlimited wants exceed limited resources.
c. Scarcity is an imbalance between buyers and sellers in a specific market.
d. Scarcity refers to a lack of trade-offs.

Q4. What does an economy achieve by producing a good or service using the least amount of
resources?
a. Productive efficiency
b. Allocative efficiency
c. Voluntary exchange
d. Equity

Q5. What type of statement would ‘A minimum wage actually reduces employment’ be considered?’
a. A positive statement
b. A marginal statement
c. A normative statement
d. An irrational conclusion
Q6. In your opinion, what is economics? In other words, what does the subject of economics study?
Hopefully, students would engage in this discussion and throw around ideas such as: supply & demand,
elasticity, GDP, money, etc.
However, in short, economics is the study of scarcity. Scarcity refers to the fact that our resources (time,
money, labour, land, minerals, etc.) are limited while our wants are unlimited.
Scarcity forces people to face trade-offs: if you decide to spend your time doing one thing, you miss out on
the opportunity to do another thing since you don’t have the time to do them both. Question 3 delves into
this.
In the face of scarcity, how do people make decision to best use their resources and maximise their
benefits? This chief question then leads to the three fundamental economic questions.
i. What goods and services will be produced?
ii. How will the goods and services be produced?
iii. Who will receive the goods and services produced?
These three questions will be explored further in Question 2.
Capitalism hinges on freedom, self-interest, and private ownership. Under capitalism, the above questions
are answered by the market (i.e., buyers and sellers).
On the other hand, communism argues that resources, assets, and properties are collectively owned by the
people, who are represented by the government. So, the government will make all the decisions in order to
answer those three fundamental economic questions.
IMPORTANT: It is up to your personal ideas and belief which system, capitalism or communism, is the
best for society.

Q7. What are the three fundamental questions the subject of economics attempt to answer? (Tip:
Check page 6 of the textbook to find out what these three questions are).
As teased in the previous question, the three fundamental economic questions are:
i. What goods and services will be produced?
ii. How will the goods and services be produced?
iii. Who will receive the goods and services produced?

In today’s world, there are two rivalling economic regimes: capitalism and communism. How does
capitalism approach to answer these three fundamental economic questions? How does communism
attempt to answer these questions?
Capitalism hinges on freedom, self-interest and private ownership. Under capitalism, the above questions are
answered by the market (i.e. buyers and sellers).

On the other hand, communism argues that resources, assets and properties are collectively owned by the
people, who are represented by the government. So the government will make all the decisions in order to
answer those three fundamental economic questions.

IMPORTANT: It is up to your personal ideas and belief which system, capitalism or communism, is the
best for society.
Q8. In your own words, explain what opportunity cost means.

Page 7 of the textbook defines opportunity cost as “the highest-valued alternative that must be given up to
engage in an activity”.
=> It is important to note that in economics, all costs are viewed as opportunity costs.

Consider the following example.

Andy has just been offered an extra evening shift for 3 hours at Coles. He would earn $100 if he takes
it. However, he already plans to go with his mates and catch the latest Avengers movie: “Avengers:
the Game does not End yet”. The movie ticket costs $20.

What do you think is the total opportunity cost for Andy if he decides to go to the movies?

Students may be tempted to conclude that the opportunity cost of Andy going to the movies is $100, the
wage he would miss for turning down work. However, this is not quite correct.

The $100 is only a part of the opportunity cost. It is an example of a “time cost” (i.e. Since Andy goes to the
movies, he does not have the time to turn up for work). There is, however, another part of opportunity cost.
The cost of the movie ticket ($20) is also part of the opportunity cost. It is an example of a “monetary cost”.
From now on, remember that opportunity cost consists of both the “time cost” and the “monetary cost”.

Q9. The following table gives the relationship between the price and the number of Pies bought per
week

Price ($) Quantity of Pies Week

3.00 6 2 July

2.00 7 9 July

5.00 4 16 July

6.00 3 23 July

1.00 8 30 July

4.00 5 6 August

Requirements:

a. Plot the data from the table on a graph

b. Is the relationship between price and the number of Pies bought positive or negative?

a
(dollars per pie)

Demand for Pies

8
Price

6
4
2
0
2 3 4 5 6 7 8 9

Quantity
(pies per week)
b. It is obvious that there is a negative relationship between the price of pies and the number of pies bought
(aka demanded). This is known as the “law of demand”.
It requires none other than common sense to understand the “law of demand”. We wish you remember that
“95% of economics is common sense made complicated”.

Q10. The following table gives information on the quantity of lemonade demanded on sunny and
overcast days. Plot the data in the table on a graph.

Price ($) Quantity (glasses of Weather

lemonade)
0.80 30 Sunny

0.80 10 Overcast

0.70 40 Sunny

0.70 20 Overcast

0.60 50 Sunny

0.60 30 Overcast

0.50 60 Sunny

0.50 40 Overcast

Demand for lemonade

0.9

0.8

0.7

0.6
($ per glass)

0.5
Price

0.4

0.3

0.2

0.1

0
0 10 20 30 40 50 60 70

Quantity
(glasses per day)
 Week 2: Demand and Supply
Self-study Questions
Question 1) It’s Saturday evening. Emma was planning to catch “The Twilight Saga: High Noon” at a
local cinema. (Seriously, who ever asked for another Twilight movie???). The movie ticket would cost her
20 bucks.

On the same evening, Emma was offered an extra 3-hour ship at Coles, which would earn her $100. On
another note, Emma’s aunt asked her to babysit her little cousin for the night and was willing to pay Emma
$50.

Required: If Emma decides to go to the movies, how much would be the total opportunity cost for her?
Clearly explain why.

Question 2) Suppose that Australia can only produce two products: motorbikes and lemons. The
following table shows the different amounts of outputs Australia can produce in a year. (All numbers below
are simplified to make calculations easier).
Motorbikes Lemons
(in tonnes)
5,000 0
3,500 900
1,700 1,980
500 2,700
0 3,000

Required:
a. Based on data from the above table, what is the opportunity cost of producing one motorbike in
Australia? What is the opportunity cost of producing one tonne of lemons?
b. The Australian government aims to produce 3,500 motorbikes and 1,500 tonnes of lemons
during the next financial year.
Is this goal achievable? What needs to be done for Australia to achieve this output target?
c. In the real world, a typical PPF is usually not a straight line but a concave (bowed out) curve.
Use the concept of increasing marginal opportunity cost to explain why PPFs are usually
concave curves
Question 3) Karen and Kevin are neighbours. Each of them runs their own coffee shop, Karen in
Glenferrie, and Kevin in Camberwell. They both serve cookies and cupcakes which they make by
themselves.

The table below shows the number of cookies and cupcakes Karen and Kevin can make in a day.

Karen Kevin
Cookies Cupcakes Cookies Cupcakes
60 0 70 0
45 9 40 24
25 21 15 44
0 36 0 56

Required:

a. Based on the data provided above, who has the absolute advantage in making cookies? Who has
the absolute advantage in making cupcakes?

b. Who has the comparative advantage in making cookies? Who has the comparative advantage in
making cupcakes?

c. Karen and Kevin figure that each of them should focus on making only one item (either cookies
or cupcakes). They would then trade with each other.
Who should be making cookies and who cupcakes then?

d. What would be the appropriate price for Karen and Kevin to trade their cookies and cupcakes
with each other? Clearly explain why.
Multiple Choice Questions
1. The Coffee Nook, a small cafe near campus, sells cappuccinos for $2.50 and Russian tea cake
for $1.00 each. What is the opportunity cost of buying a Russian tea cake?
a. 2.5 cappuccinos
b. 0.4 cappuccinos
c. $2.50
d. $1.00
2. Mary quits her $125,000-a-year job to take care of her sick parents. What is the opportunity
cost of her decision?
a. Zero, since she will no longer be earning a salary
b. It depends on the “going rate” for home-care providers
c. At least $125,000
d. The value she attributes to the satisfaction she receives from taking care of her parents

3. Economists reason that the optimal decision is to continue any activity up to the point where
the

a. Marginal benefit is zero

b. Marginal benefit is greater than the marginal cost

c. Marginal cost is zero

d. Marginal benefit equals the marginal cost

4. The principle of opportunity cost is that

a. In a market economy, taking advantage of profitable opportunities involves some money cost

b. The economic cost of using a factor of production is the alternative use of that factor that is
given up

c. Taking advantage of investment opportunities involves cost

d. The cost of production varies depending on the opportunity for technological application
5. Refer to the figure above. What is the opportunity cost of producing 1 bolt of cotton in
Indonesia?
a. 3/8 of a kilogram of cashews
b. 5/8 of a kilogram of cashews
c. 8/3 kilograms of cashews
d. 120 kilograms of cashews
6. Which of the following statements is true about scarcity?
a. Scarcity refers to the situation in which unlimited wants exceed limited resources
b. Scarcity is not a problem for the wealthy
c. Scarcity is only a problem when a country has too large a population
d. Scarcity arises when there is a wide disparity in income distribution
7. Bella can produce either a combination of 60 silk roses and 80 silk leaves or a combination of
70 silk roses and 55 silk leaves. If she now produces 60 silk roses and 80 silk leaves, what is the
opportunity cost of producing an additional 10 silk roses?
a. 2.5 silk leaves
b. 10 silk leaves
c. 25 silk leaves
d. 55 silk leaves

8. Refer to Figure above. A movement from X to Y

a. Could be due to a change in consumers' tastes and preferences.

b. Is the result of advancements in food production technology only, with no change in the
technology for plastic production.

c. Is the result of advancements in plastic production technology only, with no change in food
production technology.

d. Could occur because of an influx of immigrant labour.

 9. Refer to the same Figure above. A movement from Y to Z

a. Represents an increase in the demand for plastic products.

b. Could occur because of general technological advancements.

c. Is the result of advancements in food production technology.

d. Is the result of advancements in plastic production technology.

10. Refer to the same Figure above. A movement from Y to W is due to

a. An increase in the unemployment rate

b. A decrease in a nation’s money supply

c. A war that kills a significant portion of the nation’s population

d. An advancement in technology

WEEK 2_TUTOTIAL QUESTIONS

Key concepts: Scarcity, Marginal Benefit & Cost, Opportunity Cost, Production Possibility Frontier (PPF),
Absolute Advantage, Comparative Advantage

Q1. Suppose that you own a toilet paper manufacturing company in Victoria. The demand for toilet
paper has just gone through the roof due to panic buying (It’s “Toilet Paper Apocalypse” all over
again!!!).

You just received a new order for 1 million rolls of toilet paper to be completed in 1 month. (I know
this is a ridiculous number, but hey, it’s the “Toilet Paper Apocalypse”). This is in addition to the
amount your company would normally produce.

Required:

a. What do you think would be the marginal benefit for your company if you accept this new order? What
would be the marginal cost?

b, How do you decide whether it is the right call to accept this new order or not?

________
a. Marginal = Additional.

If you say yes and accept the new order, the marginal benefit would be the additional amount of revenue you
can receive by selling 1 million more rolls of toilet paper.

The marginal cost, on the other hand, would be the additional costs your factory has to pay. These costs
entail:

- Additional wages. You may have to hire new workers or ask existing ones to work overtime.

- Additional materials.
- You may think of buying new machine and equipment to increase your production capacity. However, let’s
assume that 1 month to complete the new order is too short a time frame. As we are in the short run (you’ll
learn more about this in Topic 4, Chapter 6), a business can only change its amount of labour while the
amount of capital (e.g., machine, equipment, etc.) will remain the same.

b. You will only accept the new order if the marginal benefit generated from this order exceeds the marginal
cost so that additional profits can be added to your bottom line.

You will not do it if the marginal benefit is below the marginal cost since it means the new order turns in a
loss, which would reduce the business’ overall profit.

In economics, we call this “decision being made at the margin”. You will continue to pursue an activity (in
this case, producing more toilet paper) as long as the marginal benefit trump the marginal cost.

You must stop when marginal benefit equals to marginal cost. If you keep going further, marginal benefit
would continue to fall (you’ll learn more about this in Topic 5, Chapter 8) while marginal cost would
continue to rise due to the law of diminishing return (you’ll learn more about this in Topic 4, Chapter 6). So
if you push beyond the point where marginal benefit and marginal cost are equal, you will end up with less
profit compared to before.

Q2. In your own words, explain the concept of opportunity cost with at least one example.

Opportunity cost is the amount of benefit from the next best alternative that has to be forgone when you
decide to pursue a certain activity. Opportunity cost consists of two parts: the monetary cost and the time
cost.
For example, you decide to take a night off work and go to the movie instead. Opportunity cost, in this case,
will include
i. The cost of the movie ticket you bought, say $15.
ii. The wage you could have earned if you had gone to work instead, say $60.

2.2. John has decided to move to Melbourne and study full time at Swinburne. The cost of tuition and
textbooks totals to $20,000 a year, and John will have to pay $10,000 for accommodation. Should John
decide not to study, he would have two other options. He could stay home with his parents (rent free),
work for the family business and earn $40,000 a year. Else he could move to Sydney, work in a
friend’s start-up company and make $50,000. Rent in Sydney will cost him $15,000.

Required:

Considering all of the above scenarios, what would be the opportunity cost of John going to university?
=> In the case of John going to university, his opportunity costs include the following
i. The monetary costs (i.e. explicit opportunity costs) include the cost of tuition and textbooks:
$20,000 and the cost of rent: $10,000 for a total of $30,000
ii. The time cost: If he does not go to university, what else can he do and how much is the benefit
he can receive? He can either work at home or work in Sydney. Remember that opportunity cost
counts only the next best alternative. It seems John will be better off working at home and earn
$40,000 than working in Sydney where his net income will be $35,000 only ($50,000 salary
minus $15,000 rent). So the benefit given up from the next best alternative (working at home for
his family business) is $40,000.
In total, the opportunity costs of John going to university will be $70,000 ($30,000 + $40,000).
Q3. Suppose that Australia can only produce two products: cars and wheat. The following table
shows the different amounts of outputs Australia can produce. (All numbers below are simplified to
make calculations easier).
Cars Wheat
(in tonnes)
1,000 0
500 200
400 240
0 400

Required:
a. Draw the Production Possibility Frontier (PPF) for the economy of Australia
b. Based on data from the above table, what is the opportunity cost of producing one car in Australia? What
is the opportunity cost of producing one tonne of wheat?
c. Suppose that there has been a technological breakthrough in the car industry in Australia. A maximum of
1,500 cars can be now produced. Meanwhile, things remain the same for wheat production. Draw the new
PPF (after the advancement in technology). Compare between the new PPF and the original PPF.
---------
a. Australia’s Production Possibility Frontier is shown in the chart below

Australia PPF
1200

1000

800
Number of cars

600

400

200

0
0 50 100 150 200 250 300 350 400 450
Amount of wheat (tonnes)

b. To go from producing 0 car to 400 cars (an increase of 400 cars), Australia must sacrifice 160 tonnes of
wheat (going from 400 tonnes to 240). Thus, it can be said that 400 cars are the equivalent of 160 tonnes of
wheat. Which means 1 car is the equivalent of 0.4 (=160 / 400) tonnes of wheat. Thus, the opportunity cost
of producing 1 car is 0.4 tonnes of wheat. Apply the same logic, the opportunity cost of producing 1 tonne of
wheat would be 2.5 cars.
 1600

1400

1200

1000
Number of cars

800
Old PPF
600 New PPF

400

200

0
0 50 100 150 200 250 300 350 400 450
Amount of wheat (tonnes)

c. Since the technological breakthrough occurs in car production only, outputs for cars will expand while
outputs for wheat will remain the same as before.
The maximum output for cars is now 1,500 as opposed to 1,000 previously. This equates to car output
increasing by 1.5 times.
We will now assume that car output has increased by 1.5 times across all levels of output. The table of data
below illustrates all the increases in output for cars.
Cars Cars (NEW) Wheat
(After technology (in tonnes)
breakthrough)
1,000 1,500 0
500 750 200
400 600 240
0 0 400
Throwing the new data for cars and the data for wheat in Excel, you will get the new PPF in red above.
Q4. Using the same amount of resources, Australia and New Zealand can both produce apples and
oranges as shown in the following table, measured in thousands of tonnes.

AUSTRALIA NEW ZEALAND

Apples Oranges Apples Oranges

12 0 6 0

9 2 3 3

0 8 0 6
Required:

a. Which country has the absolute advantage in producing apples? Which country has the absolute advantage
in producing oranges?

b. Which country has the comparative advantage in producing apples? Support your answer with appropriate
calculations.

c. Which country has the comparative advantage in producing oranges? Support your answer with
appropriate calculations.

d. Suppose that Australia and New Zealand would specialise (i.e. one country focuses on producing only one
product), then trade with each other. Which country should produce apples? Which country should produce
oranges?
-----
a) A country holds the absolute advantage if it can produce more outputs than another country, using the
same amount of resources.
If Australia is to dedicate all resources in producing apples, they can produce 12,000 tonnes. If New Zealand
does the same, they can produce only 6,000 tonnes. Thus, Australia holds the absolute advantage in
producing apples.
If Australia is to dedicate all resources in producing oranges, they can produce 8,000 tonnes. If New Zealand
does the same, they can produce only 6,000 tonnes. Thus, Australia also holds the absolute advantage in
producing oranges.

b) A country holds the comparative advantage if they can produce a product at a lower opportunity cost
compared to the other country.
In Australia, the opportunity cost of producing 1 apple is 0.67 (2/3) orange.
In New Zealand, the opportunity cost of producing 1 apple is 1 orange.
Since the opportunity cost of producing apples is lower in Australia, Australia holds the comparative
advantage in producing apples.

c) In Australia, the opportunity cost of producing 1 orange is 1.5 apples.

In New Zealand, the opportunity cost of producing 1 orange is 1 apple.
Since the opportunity cost of producing oranges is lower in New Zealand, New Zealand holds the
comparative advantage in producing oranges.

d) Decisions on specialisation and trade should be based on comparative advantage, NOT absolute
advantage.
Since Australia holds the comparative advantage in producing apples, Australia should specialise in
producing apples only.
Since New Zealand holds the comparative advantage in producing oranges, New Zealand should specialise
in producing oranges only.
The two countries can then trade with each other.
Q5. Which of the following establishes the inverse relationship between the price of a product and the
quantity of the product demanded?
a. The substitution effect
b. The income effect
c. The law of demand
d. The price effect
Q6. When analysing the relationship between the price of a good and quantity demanded, other
variables must be held constant. Which term best describes such an assumption?
a. The term ‘substitution effect’
b. The term ‘income effect’
c. The term ‘law of demand’
d. The term ‘ceteris paribus’
Q7. When two goods, X and Y, are complements, which of the following occurs?
a. An increase in the price of good X leads to an increase in the price of good Y.
b. An increase in the price of good X leads to a decrease in the quantity demanded of good Y.
c. An increase in the price of good X leads to a decrease in demand for good Y.
d. An increase in the price of good X leads to an increase in demand for good Y.
Q8. Which of the following would cause a shift in the supply curve of a good to the right?
a. A fall in the price of the good
b. A reduction in the price of an input used in the production process
c. An increase in demand for the good
d. A rise in the price of intermediate goods used in the production of the good
 WEEK 3: ELASTICITY
Key concepts: Demand, Supply, Quantity Demanded, Quantity Supplied, Equilibrium, Movement along the
curve, Shift of the curve, Surplus, Shortage.
Question 1) The following table gives information on the quantity of lemonade demanded when the
weather is sunny.
Price Quantity
(glasses of lemonade bought)
0.80 30
0.70 40
0.60 50
0.50 60

a. Draw a demand curve/line on a graph based on the data above. Make sure to label your graph
fully.

b. What can you say about the relationship between price level and quantity demanded? What
can you say about the demand curve?
It can be seen clearly from the graph above that there is an inverse relationship between price and
quantity demanded. That is, when price rises, quantity demanded falls and vice versa. There are two
causes to this inverse relationship between price and quantity demanded. They are the “income
effect” and the “substitute effect”. This is also known as the “law of demand”.

c. When the weather is cool and overcast, the quantity of lemonade demanded starts to change.
Refer to the table below. Draw the new demand curve/line on the same graph with the old one
based on the data above. Make sure to label your graph fully.
 Price Quantity
(glasses of lemonade bought)
0.80 10
0.70 20
0.60 30
0.50 40

d. What can you say about the differences between those two demand curves/lines? What is the cause
of such differences?
Dovercast is on the left-hand side of Dsunny. This suggests that at every single price level, the quantity demanded
for lemonade is lower on overcast days compared to sunny days. We can say that when the weather turns
cool and overcast, people demand less lemonade, and the demand curve shifts left.

Based on the lecture slides, the variable that shifts the demand curve in this scenario could be “tastes”. In
cooler days, people do not want to drink lemonade that much. This leads to the demand being lower
compared to sunny days.
Question 2) The table below shows data regarding quantity demanded and supplied of drinks for
the “Boost Juice”.
Price ($) Quantity demanded Quantity supplied
4 2,000 1,500
6 1,600 1,600
8 1,200 1,700
10 800 1,800
12 400 1,900
14 0 2,000

a. Draw the demand and supply curves for “Boost Juice” based on the data above. Make sure to
label all axes and curves.

b. What are the equilibrium price and quantity of drinks? In your own words, explain clearly
why this is the equilibrium point.
The equilibrium point is where the supply curve and the demand curve meet. At equilibrium,
Quantity demand = Quantity supplied.
The equilibrium is reached when the price level is $6. At $6, Quantity Demanded = Quantity
Supplied = 1,600.

c. What would happen if the price was initially $12? Based on the graph in (a), identify any
surplus or shortage.
If the price was initially $12, Quantity Demanded = 400 and Quantity Supplied = 1,900.
Since Quantity Supplied is greater than Quantity Demanded, there exists a surplus. The amount of
this surplus is 1,500 units (1,900 – 400).

d. What would happen if the price was initially $4? Based on the graph in (a), identify any
surplus or shortage.
If the price was initially $4, Quantity Demanded = 2,000 and Quantity Supplied = 1,500.
Since Quantity Demanded is greater than Quantity Supplied, there exists a shortage. The amount of
this shortage is 500 units (2,000 – 1,500).
Question 3) A storm in New South Wales destroyed thousands of hectares of pineapple crops.
Pineapple farmers whose crops were destroyed by the storm were much worse off, but those whose
crops were not destroyed benefited from the storm.
a. Draw appropriate supply & demand graph(s) to illustrate the effects of the storm on the
market for pineapples. In your own words, explain which curve(s) would shift and the reason
behind the shift.
=> [Don’t let this happen to you] Many students in the past would draw two demand – supply graphs.
One for farmers whose crops were destroyed in which they showed the supply curve shifting left. One
for farmers whose crops were unscathed in which they kept everything the same or even shifted the
demand curve to the right.
This is incorrect. Because there is only one single market of pineapples in New South Wales for all
farmers. It would be wrong to separate pineapples farmers into two groups and two markets.
If you want to illustrate how an individual farmer will be affected by the storm (suppose his crops were
wiped out), you will need to draw an individual firm’s graph. Which is not a demand – supply graph and
we will not cover it until Week 6 tutorial (perfect competition market).
So, ONE demand – supply graph for the market of pineapples as a whole is what you would need.
Since lots of crops have been destroyed, supply of pineapples will decrease dramatically, and the supply
curve will shift left.

[Don’t let this happen to you] Many students would go further and claim that because pineapples will
become more expensive, its demand must decrease. They would proceed to shift the demand curve to the
left.
This is incorrect and they are being confused between “change in quantity demanded” and “change in
demand”. It is true that the price of pineapple will increase. Consequently, the quantity demanded of
pineapple will decrease. However, the demand is unchanged, and the demand curve remains the same.
b. Comment clearly on the changes in price and quantity of pineapples in the aftermath of the
storm.

Based on the graph above it is clear that

- Price of pineapples will increase

- The quantity of pineapples will decrease

c. What would happen to the price and quantity of bananas, considering the effects on the market
for pineapples above? Draw appropriate supply & demand graph(s) to illustrate your answer.
Bananas can be considered a substitute to pineapples. With pineapples being more expensive, consumers
will likely buy other fruits, one of which is bananas. Therefore, since the price of pineapples (a
substitute) increases, the demand for bananas will increase. The relevant determinant of the demand for
bananas in this case is “price of related goods”.

Demand – Supply graph for the market of bananas

Based on the graph above, it can be seen that the price of bananas will increase, and its quantity will
increase as well.
Question 4) Hashtags such as “toiletpaperapocalypse”, “toiletpapergate”, etc were trending on
Twitter in Australia in early March 2020. Such trends occurred as a significant number of
Australians rushed to panic-buying toilet papers amid fears of the coronavirus outbreak. When
asked, many shoppers said they wanted to stockpile in case the virus was to spread across the
community.

a. Draw appropriate supply & demand graph(s) to illustrate the effects of the above shock on the
market for toilet papers in Australia. In your own words, explain which curve(s) would shift
and the reason behind the shift.
Many shoppers were panic buying toilet papers. They wanted to stockpile in case they could not
leave homes due to a potentially wide spread of the coronavirus. This indicates a surge in demand for
toilet papers at the present. Demand increases and the demand curve shifts right.

Demand – Supply graph for the market of toilet papers

[Don’t let this happen to you] Many students would go further and claim that because toilet papers
would become more expensive, suppliers would be tempted by the high price to increase production.
Students would proceed to shift the supply curve to the right.

This is incorrect and they are being confused between “change in quantity supplied” and “change in
supply”. It is true that the price of toilet papers will increase. Consequently, the quantity supplied of
toilet papers will increase. However, the supply is unchanged, and the supply curve remains the same

b. Comment clearly on the changes in price and quantity of toilet papers in Australia following
the shock above.
Based on the graph above it is clear that
i. Price of toilet papers will increase.
ii. The quantity of toilet papers will increase.

c. Supermarkets have vowed not to increase the price of toilet papers. At the same time, they
have moved to limit purchases to 4 packs per customer. What would happen to the market of
toilet papers following the above policies by supermarkets? Draw appropriate graph(s) to
illustrate your answer.
Supermarkets have vowed to keep the price of toilet papers the same despite the soaring demand. This will
create the situation of a “price ceiling”.
At the old price, Quantity Supplied is now lower than Quantity Demanded. This causes a shortage in the
market for toilet papers.

If this shortage persists for too long, it may lead to the establishment of a “black market” for toilet papers, in
which sellers and buyers will trade toilet papers at a price which is higher than the official price. In fact,
there have been posts on gumtree, eBay and Facebook marketplace where toilet papers are advertised at
obscenely high prices. Perhaps, most of those posts are meant as jokes.

However, there have been reports of black markets for medical related products such as surgical masks and
hand sanitisers in countries like South Korea, Vietnam, etc.

Price ceiling in the market for toilet papers

WEEK 3 Self-study Questions

Question 5) Explain clearly the differences between “a change in demand” and “a change in
quantity demanded”.
A student writes the following: “In the past 15 years, technological advancements have led to an increase in
the production of computers. The supply curve, thus, has shifted to the right. This causes the price of
computers to fall. As a result, demand for computers have risen, and the demand curve has shifted to the
right since more people can now afford to buy computers”.
Is this analysis true or false? Clearly explain why.
Question 6) Consider the market for station wagons. For each of the following events listed here,
determine whether demand or supply is increased or decreased. Determine whether the demand
curve or the supply curve will shift right or left. Identify what is the relevant determinant(s) that
shifts the demand curve or the supply curve.

a. People decide to have more children.

b. A strike by steelworkers raises the price of steel.

c. The price of minivans rises.

d. A stock market crash lowers people’s wealth.

e. A technological breakthrough leading to greater automation and reducing labour costs of producing
station wagons.

f. Dealers across the country all move to increase the price of station wagons.
Question 7) Consider the market for housing in Melbourne. The following two shocks recently
happened in the market.

i. Melbourne’s population increases.

ii. The Victorian government releases more land for housing.

a. Draw appropriate supply & demand graph(s) to illustrate the effects of the above two shocks on the
market for housing in Melbourne. In your own words, explain which curve(s) would shift and the
reason behind the shift.

b. Comment clearly on the changes in price and quantity of houses in Melbourne following the two
shocks above.

Question 8) Consider the export market for Australian beef.

The following text is extracted from a document entitled National Food Plan published by the Australian
Department of Agriculture: “Increased demand for food across the world will create new export
opportunities for the Australian food industry. The food products most sought after are going to be beef,
wheat, dairy products, sheep meat and sugar”.

a. Draw appropriate supply & demand graph(s) to illustrate the potential impacts on the export market
for Australian beef according to the prediction by the Australia Department of Agriculture stated
above.

b. Comment clearly on the changes in price and quantity of Australian beef in the export market.

c. Suppose there are two separate markets for Australia beef: the export market and the domestic
market. This means beef suppliers can either sell their products overseas (the export market) or
within Australia (the domestic market).

Draw appropriate supply & demand graph(s) to illustrate any potential impact on the domestic
market for Australian beef.
Clearly explain why such impacts should be expected.
Multiple Choice Questions
1. If the Apple Iphone and the Samsung Galaxy are considered substitutes, then, other things
being equal, an increase in the price of the iPhone will:

a. decrease the demand for the iPhone.

b. increase the demand for the Galaxy.

c. increase the quantity demanded of the Galaxy.

d. increase the quantity demanded of the iPhone.

2. The income effect of a price change refers to the impact of a change in

a. income on the price of a good.

b. demand when income changes.

c. the quantity demanded when income changes.

d. the price of a good on a consumer's purchasing power.

3. Refer to Figure above. An increase in population would be represented by a movement from

a. A to B.

b. B to A.

c. D1 to D2.

d. D2 to D1.
4. Refer to Figure above. A decrease in taste or preference for the product would be represented
by a movement from

a. A to B.

b. B to A.

c. D1 to D2.

d. D2 to D1.

5. Blu-ray players were introduced to the market in 2006, and new technology has allowed for the
cost of manufacturing the players to decline significantly since their initial introduction. How
did this change in technology affect the market for Blu-ray players?

a. The new technology caused an increase in the supply of Blu-ray players and a decrease in
price of Blu-ray players.

b. The new technology caused an increase in the supply of Blu-ray players and an increase in
price of Blu-ray players.

c. The new technology caused a decrease in the demand for Blu-ray players.

d. The new technology caused an increase in the quantity of Blu-ray players supplied.

6. Refer to Figure
above. An
increase in the
price of inputs
would be
represented by a
movement from

a. A to B.

b. B to A.

c. S1 to S2.

d. S2 to S1.

7. If the price of grapefruit rises, the substitution effect due to the price change will cause

a. a decrease in the demand for grapefruit.

b. a decrease in the demand for oranges, a substitute for grapefruit.

c. a decrease in the quantity demanded of grapefruit.

 d. a decrease in the quantity supplied of grapefruit.

8. Which of the following would shift the supply curve for MP3 players to the right?

a. An increase in the price of a substitute in production.

b. An increase in consumer income (assuming that all MP3 players are normal goods).

c. A decrease in the number of firms that produce MP3 players.

d. A decrease in the price of an input used to produce MP3 players.

9. Which of the following statements is true?

a. An increase in supply causes a change in equilibrium price; the change in price does not
cause a further change in demand or supply.

b. A decrease in supply causes equilibrium price to rise; the increase in price then results in a
decrease in demand.

c. If both demand and supply increase, there must be an increase in equilibrium price;
equilibrium quantity may either increase or decrease.

d. If demand decreases and supply increases, one cannot determine if equilibrium price will
increase or decrease without knowing which change is greater.
10. An increase in the demand for lobster due to changes in consumer tastes, accompanied by a
decrease in the supply of lobster as a result of bad weather reducing the number of fishermen
trapping lobster, will result in

a. a decrease in the equilibrium quantity of lobster and no change in the equilibrium price.

b. an increase in the equilibrium price of lobster and no change in the equilibrium quantity.

c. an increase in the equilibrium price of lobster; the equilibrium quantity may increase or
decrease.

d. a decrease in the equilibrium quantity of lobster; the equilibrium price may increase or
decrease.

In-class questions:
Q1. If you know the value of the price elasticity of demand, then which of the following can you
calculate?

a. The effect of a price change on the quantity demanded.

b. The responsiveness of the quantity supplied of a good to a change in its price.

 c. The price elasticity of supply.

d. All of the above.

Q2. How do economists avoid confusion over different units of measurement in the calculation of
elasticities?

a. By using aggregate values rather than single values

b. By using whole numbers rather than fractions

c. By using percentage changes

d. By using computer software packages

Q3. When demand is price inelastic, what is the relationship between price and total revenue?

a. They move in the same direction.

b. They move in opposite directions.

c. When price changes, total revenue remains the same.

d. They are unrelated.

Q4. Fill in the blanks: If an increase in the price of a substitute leads to ________ in quantity
demanded, the cross-price elasticity of demand is ________

a. an increase; positive

b. an increase; negative

c. a decrease; positive

d. a decrease; negative

Q5. Which of the following is likely to be most price inelastic in supply in the short run?

a. A baker

b. A cattle farm

c. A pizza shop

d. A clothing retailer

WEEK 4: FIRM COST OF PRODUCTION

IN-CLASS
Q1. Which of the following are sometimes called accounting costs?
a. Economic costs
b. Implicit costs
c. Explicit costs
d. Total variable costs

Q2. Refer to the graph below. During the trajectory of the curve from point A to point B, which of the
following is more likely to occur?
a. Specialisation
b. Diminishing returns
c. Division of labour
d. None of the above

Q3. Refer to the graph below. How much is the value of total fixed cost when production is at 100
copies?

a. 2 400

b. 3 400

c. 5 800

d. Total fixed cost cannot be calculated using this graph.

Q4. When does the law of diminishing returns apply?

a. When there are diseconomies of scale
b. In the short run only
c. In the long run only
d. In both the short run and the long run

SELF-STUDY QUESTIONS
Question 1). Lisa owns a pretty popular milk tea shop near Swinburne. Her signature “milk foam on oolong
tea” is to die for.
She originally set the price at $5 per cup. After several months of successful business, Lisa decided to raise
the price by 25%.
Her business partner was concerned that the higher price would drive customers away, hurting the business’s
bottom line.
However, Lisa assured him that she got this covered.
Required:
Why do you think Lisa was so confident that raising the price would not jeopardise her milk tea business?
Use relevant economic concepts to make sense of this.
At the end of the first quarter after jacking her price up by 25%, Lisa found out that her total sales revenue
increased by 25% as well.
How would you describe the price elasticity of demand for Lisa’s milk tea?

Question 2) Ben runs a sushi train near Swinburne. The price for his sushi was originally $2.5 per dish.
After two months, Ben raised the price by 15%. He noticed that the average quantity of dishes sold per week
fell by 9%.
After six months in business, Ben raised the price by another 20%. Consequently, quantity fell by 12% off
the previous level.
Required:
Based on the data concerning price and quantity above, calculate the price elasticity of demand for Ben’s
sushi dishes.
Question 9) Consider the graph below.

Required:

Calculate the price elasticity of demand between e and f, using the mid-point formula.

Question 10) Gulrukh drives a Ferrari and Jessica drives a Batmobile (Yes, you heard it right. Bruce lent
Jessica the car for daily commutes).
The two heroines meet at a petrol station.

“Give me 50 litres of petrol”, thunders Gulrukh.

“$50 worth of petrol for me”, Jessica’s ominous voice rings.
Neither looks at the petrol price while booming their commands.

Required:

How would you describe Gulrukh’s price elasticity of demand for petrol?
Same question for Jessica.
Multiple Choice Questions
1. Suppose the value of the price elasticity of demand is -3. What does this mean?
A. 1 per cent increase in the price of the good causes quantity demanded to increase by 3 per cent.
B. 1 per cent increase in the price of the good causes quantity demanded to decrease by 3 per cent.
C. 3 per cent increase in the price of the good causes quantity demanded to decrease by 1 per cent.
D. $1 increase in price causes quantity demanded to fall by 3 units.

2. Jaycee Jeans sold 40 pairs of jeans at a price of $40. When it lowered its price to $20, the quantity
sold increased to 60 pairs. Calculate the absolute value of the price elasticity of demand. Use the
midpoint formula.
a. 1.67
b. 1.0
c. 0.6
d. 0.53
3. The price elasticity of demand for beef is estimated to be 0.60 (in absolute value). This means that
a 20 per cent increase in the price of beef, holding everything else constant, will cause the quantity
of beef demanded to
a. decrease by 12 per cent.
b. decrease by 26 per cent.
c. decrease by 32 per cent.
d. decrease by 60 per cent.
4. Which of the following statements about the price elasticity of demand is correct?
a. The elasticity of demand for a good in general is equal to the elasticity of demand for a specific
brand of the good.
b. Demand is more elastic in the long run than it is in the short run.
c. The absolute value of the elasticity of demand ranges from zero to one.
d. Demand is more elastic the smaller the percentage of the consumer's budget the item takes up.
5. Refer to the Figure above. As price falls from PA to PB, the quantity demanded increases most
along D1; therefore,
a. D1 is unit elastic.
b. D1 is more inelastic than D2 or D3.
c. D1 is more elastic than D2 or D3
d. D1 is elastic at PA but inelastic at PB.
6. The price elasticity of demand for Stork ice cream is -4. Suppose you're told that, following a price
increase, quantity demanded fell by 10 per cent. What was the percentage change in price that
brought about this change in quantity demanded?
a. 40 percent b. 25 percent
c. 2.5 percent d. 0.4 percent

7. Suppose a hurricane decreased the supply of oranges so that the price of oranges rose from $120 a
tonne to $180 a tonne and quantity sold decreased from 800 tonnes to 240 tonnes. What is the absolute
value of the price elasticity of demand?
a. 11 b. 37
c. 2.69 d. 9.33

8. If the demand for a life-saving drug was perfectly inelastic and the price doubled, the quantity
demanded would
a. Also double b. Decrease by 50 percent
c. Be cut in half d. Remain constant

9. If the price of steel increases drastically, the quantity of steel demanded by the building industry
will fall significantly over the long run because
a. buyers of steel are more sensitive to a price change if they have more time to adjust to the price
change.
b. buyers of steel are less sensitive to a price change if they have more time to adjust to the price change.
c. sales revenue in the building industry will fall sharply.
d. profits will fall by a greater amount in the long run than in the short run.

10. Suppose a decrease in the supply of bottled water results in a decrease in revenue. This indicates
that
a. the demand for bottled water is inelastic in the price range considered.
b. the demand for bottled water is elastic in the price range considered.
c. the supply of bottled water is inelastic in the price range considered.
d. the supply of bottled water is elastic in the price range considered.
Tutorial Questions
Question 1) In high-income countries (such as Australia), the price elasticity of demand for cigarettes
is estimated to be about -0.4.
Which of the following statements best describes this price elasticity of demand?
a. When the price of cigarettes increases by $1, the demand for cigarettes decreases by 0.4 units.
b. When the price of cigarettes increases by $1, the quantity demanded for cigarettes decreases by 0.4
units.
c. When the price of cigarettes increases by 1%, the demand for cigarettes decreases by 0.4%
d. When the price of cigarettes increases by 1%, the quantity demanded for cigarettes decreases by
0.4%.
Clearly explain why the answer of your choice is correct while the other three alternatives are incorrect.
Is the quantity demanded for cigarettes in Australia sensitive or insensitive to a change in price?
Do you think the demand for cigarettes in Australia is price elastic or price inelastic? Clearly explain why.
------
(a) and (b) are incorrect. This is because the change in price is measured in dollars while the change in
quantity demanded is measured in units.
The units of measurement are not consistent.
Changes in both price and quantity demanded must be measured in percentage.
(c) is incorrect. This is because an increase in price does not cause a decrease in overall demand.
Quantity demanded will fall. However, demand for cigarettes overall will remain unchanged and the demand
curve will stay the same (there’s no shift).
(d) is the right answer.
The quantity demanded for cigarettes is insensitive to a change in price.
Price was raised by 1% whereas quantity demanded fell by less than half of that (0.4%).
The demand for cigarettes in Australia is, therefore, price inelastic.

Question 2) Aran owns a bookstore. He is currently selling 40 copies per day of the latest J.K.Rowling
novel (a sequel to the Harry Potter series) at a price of $35. Aran is thinking of lowering the price to
$25. He believes this will increase the quantity sold to 50 books per day.
a. Using the mid-point formula and based on the data above, calculate the price elasticity of demand for
the latest J.K.Rowling novel in Aran’s bookstore
b. Is the demand for the novel elastic or inelastic?
c. Should Aran go ahead and reduce the selling price? How will that decision affect Aran’s total
revenue earned from this novel?
a. Follow the four steps below to calculate the price elasticity of demand for this novel.
Step 1: Pick up the New Quantity & Old Quantity, and New Price & Old Price.
New Q = 50, Old Q = 40
New P = $25, Old P = $35.
Step 2: Calculate the percentage change in quantity, using the mid-point formula

Step 3: Calculate the percentage change in price, using the mid-point formula

Step 4: Divide %change in Q over %change in P to work out price elasticity of demand

NOTE: Make sure you’d report price elasticity of demand as a negative number.
According to the law of demand, price and quantity demanded are always negatively related. This explains
why price elasticity of demand is always a negative number.
Price elasticity of demand is just a number.
There is no % or $ that accompanies the number.

b. Price elasticity of demand for this novel = -0.67.

The absolute value of elasticity is 0.67, which is lower than 1.
Therefore, the demand for the novel is price inelastic

c. Aran should NOT lower the price.

Since the demand for the novel is price inelastic, a cut in price will lead to a reduction in revenue, which in
turn leads to a decline in profit.
For inelastic demand, when price is cut, quantity demanded will increase but not by enough to make up for
the decrease in demand. Hence, revenue will fall.
Give the demand for the novel is price inelastic, Aran should do the opposite.
He should raise the price for this novel. It will enable him to earn more revenue, thus, more profit.
Question 3) One of the questions in a micro online test is as follows:
“The price elasticity of demand for low-fat milk in Australia is estimated at -2.07 (Sharma et al 2014).
Do you think the demand for low-fat milk in Australia is price elastic or price inelastic?”
In response to the above question, Vu (a not-so-bright 1st year economics student) writes the following
answer:
“The price elasticity of demand for low-fat milk is -2.07. It’s a negative number, thus, it’s lower than 0.
Since it’s lower than 0, it’s definitely lower than 1. Therefore, the demand for low-fat milk in Australia is
inelastic.”
Do you agree or disagree with Vu’s answer above? Clearly explain why.
--------------
Vu’s answer is incorrect.
Vu made a basic mistake, that is, he picked up the whole number of elasticity (-2.07) to compare against 1.
He should have picked up the absolute value of elasticity only. This means he should have ignored the
negative sign.
The correct answer should be as follows:
“The absolute value of the price elasticity of demand for low-fat milk is 2.07. This number is far greater than
1. Therefore, the demand for low-fat milk in Australia is highly elastic.”

PS: I have seen people make this basic mistake every semester. Don’t be like them.
PPS: Vu is not particularly bright. Please cut him so slack.

Question 4) Harrison owns a dairy farm in Western Victoria. There are about 1,500 dairy farms in the same
region. All dairy farms here, Harrison’s included, sell milk to at the price of 50 cents per litre. The buyers
are Woolworths and Coles, the two biggest supermarket chains in Australia.
Last month, Harrison decided to raise his price to 55 cents per litre while his competitors kept the price
unchanged. After raising his price, Harrison noticed that his buyers stopped doing business with him.
Consequently, Harrison’s sales last month crashed to zero.
What can you say about the price elasticity of demand for Harrison’s milk? Clearly explain.
How would you illustrate the demand curve for Harrison’s milk on a graph?
Note: This question does not focus on the price elasticity of demand for milk overall. It concentrates on the
price elasticity of demand for milk supplied by Harrison in particular.
=> You may say that the demand for Harrison’s milk is highly elastic.
It’s actually more extreme than that.
It looks like Harrison can only sell his milk at a fixed price.
The moment he deviates from that fixed price, he’ll end up with no sales (i.e., the quantity demanded for
Harrison’s milk crashes to zero).
The demand for Harrison’s milk is, therefore, perfectly elastic.
If you are to illustrate the demand for Harrison’s milk on a graph, the demand curve will be a straight
horizontal line.

Question 5) For each pair of products below, determine which product would have a higher price
elasticity of demand (in absolute value). Refer to the list of determinants in the lecture slides, point out
which determinant is relevant in each case.
a. Drugs for cancer treatment and Lacoste polo shirts
b. Petrol (in the short run) and Petrol (in the long run)
c. Petrol and Domino’s Pizza
Pick the following pair of products “Drugs for cancer treatment” and “Lacoste polo shirts”.
Draw the demand curve for each of them, then compare. What can you say about the difference in the
demand curve between cancer drugs and Lacoste polo shirts? Explain.

a. Drugs for cancer treatment is a necessity.

Its demand is inelastic.
Lacoste polo shirt is a luxury, with plenty of substitutes.
Its demand is elastic.
In absolute term, the price elasticity of demand for Lacoste polo shirt will be much higher than that for drugs
for cancer treatment.
Determinant = Luxuries vs. Necessities.
b. In the short run, you will have to fill up your call with petrol anyway, regardless of the price of
petrol.
You don’t really have another choice (i.e., a close substitute for petrol in the short run).
The demand for petrol in the short run is inelastic.
In the long run, you will have more time and wriggle room to alter your purchasing behaviour.
For example, switch to an electric car and you don’t have to buy petrol anymore. Or move to a new place
with easy access to public transport so that you don’t have to drive so often.
In the long run, you have more choices for action to reduce the reliance on petrol if the price of petrol is
persistently high.
Overall, the demand for petrol in the long run is more elastic.
In absolute term, the price elasticity of demand for petrol in the long run will be
higher than that for petrol in the short run.
Determinant = Passage of time.

c. Petrol and Domino’s Pizza

There is not really a close substitute for petrol, especially in the short run.
You will have to buy petrol and fill up your car regardless of the price.
Demand for petrol, especially in the short run, is highly inelastic.
There are many close substitutes for Domino’s, a specific brand of pizza.
If Domino’s pizza gets more expensive, you can try other competing brands like Pizza Hut (which is equally
terrible), or some local pizza shops.
Demand for Domino’s Pizza is, therefore, highly elastic.
In absolute term, the price elasticity of demand for Domino’s Pizza will be higher than that for petrol.
Determinant = Availability of substitutes.
The demand curve for a product with an inelastic demand (e.g., drugs for cancer treatment) will be
steeper (more vertical), as shown in graph (1) below.

The demand curve for a product with an elastic demand (e.g., Lacoste polo shirts) will be flatter (more
horizontal), as shown in graph (2) below.