COR2100 Economics and Society

Homework 1A – Introduction
Due: in class, 22/01/2020, individual submission

1. You are planning to build an apartment building. Your market research department estimates that
your revenues will be $9.0 million. Your engineering department estimates the cost will be $6.0 million.
You have started construction and spent $1.5 million to build the foundation when the recession begins.
This causes the market research department to revise its revenue estimates downward to $4.0 million.
Should you complete the apartment building?

2. You own a car that is a few years old, and you have just replaced the brake pads at a cost of $500.
But then you find out that the entire brake system is defective and also must be replaced. This will cost
you an additional $2000. Alternatively, you could sell the car and buy another of comparable quality,
but with no brake defects, by spending an additional $2200. What should you do: fix your old car, or
sell it and buy another?

3. In each of the following cases, explain whether you think the situation is efficient or not. If it is not
efficient, why not, and what would you propose to improve the efficiency of the situation?
a. Electricity is included in the rent at your dorm. Some residents in your dorm leave lights, computers,
and appliances on when they are not in their rooms.
b. Although they cost the same amount to prepare, the cafeteria in your dorm consistently provides too
many dishes that diners don’t like, such as tofu casserole, and too few dishes that diners do like, such
as roast turkey with dressing.
c. The enrolment for a particular course exceeds the spaces available. Some students who need to take
this course to complete their major are unable to get a space even though others who are taking it as an
elective do get a space.

4. Briefly explain whether each of the policies below is designed to address the equity or efficiency side
of the trade-off. Discuss briefly as well whether and how it can affect the other side of the trade-off.
a. The government pays the full tuition for every college student to study whatever subject he or she
wishes.
b. When people lose their jobs, the government provides unemployment benefits until they find new
ones.

5. Suppose that there are 10 million workers in Canada and that each of these workers can produce
either 2 cars or 30 bushels of wheat in a year.
a. What is the opportunity cost of producing a car in Canada? What is the opportunity cost of producing
a bushel of wheat in Canada? Explain the relationship between the opportunity costs of the two goods.
b. Draw Canada’s production possibilities frontier. If Canada chooses to consume 10 million cars, how
much wheat can it consume? Label this point on the production possibilities frontier.
c. Now suppose that the United States offers to buy 10 million cars from Canada in exchange for 20
bushels of wheat per car. If Canada continues to consume 10 million cars, how much wheat does this
deal allow Canada to consume? Label this point on your diagram. Should Canada accept the deal? Why?
Further Practice (not for submission)

1. Explain whether each of the following government activities is motivated by a concern about equality
or a concern about efficiency. In the case of efficiency, identify the type of market failure involved.
a. regulating cable TV prices
b. providing some poor people with vouchers that can be used to buy food
c. prohibiting smoking in public places
d. breaking up Standard Oil (which once owned 90 percent of all oil refineries) into several smaller
companies
e. imposing higher personal income tax rates on people with higher incomes
f. instituting laws against driving while intoxicated

2. Jeremy worked at a bank with a monthly salary of $1,500. He decided to quit his job and open a
bookstore in his neighborhood. He now pays $500 in rent, $80 in utilities, and $120 in wages every
month.
a. Suppose Jeremy sells 100 books at the price of $30 every month.
i. What is the monthly total revenue of Jeremy’s bookstore?
ii. How much accounting profit does Jeremy make every month?
iii. How much economic profit does Jeremy make every month?
b. If Jeremy had not quit his job at the bank, he could have been promoted and got a pay raise of 30
percent.
i. Will there be any changes in the monthly explicit and implicit costs of Jeremy’s bookstore?
ii. Will there be any changes in the accounting profits of Jeremy’s bookstore?
iii. Will there be any changes in the economic profits of Jeremy’s bookstore?

3. This problem asks you to think carefully about sunk costs.

a. The International Space Station (ISS) is a habitable satellite that was launched by NASA and space
agencies of other countries. In 2009, NASA was considering shutting down the ISS within the next 5
to 6 years. Among those who were opposed to this idea of de-orbiting the ISS was Senator Bill Nelson,
who was quoted as saying, “If we’ve spent a hundred billion dollars, I don’t think we want to shut it
down in 2015.” Identify the flaw in the senator’s reasoning.
b. The company that you manage has invested $10 million in developing a new product, but the
development is not quite finished. At a recent meeting, your salespeople report that the introduction of
competing products has reduced the expected sales of your new product to $7 million. If it would cost
$1.5 million to finish development and make the product, should you go ahead and do so? What is the
most that you should pay to complete development?

4. Atlantis is a small, isolated island in the South Atlantic. The inhabitants grow potatoes and catch fish.
The accompanying table shows the maximum annual output combinations of potatoes and fish that can
be produced. Obviously, given their limited resources and available technology, as they use more of
their resources for potato production, there are fewer resources available for catching fish.
a. Draw a production possibility frontier with potatoes on the horizontal axis and fish on the vertical
axis illustrating these options, showing points A–F.
b. Can Atlantis produce 500 pounds of fish and 800 pounds of potatoes? Explain. Where would this
point lie relative to the production possibility frontier?
c. What is the opportunity cost of increasing the annual output of potatoes from 600 to 800 pounds?
d. What is the opportunity cost of increasing the annual output of potatoes from 200 to 400 pounds?
e. Can you explain why the answers to parts c and d are not the same? What does this imply about the
slope of the production possibility frontier?