Principles of Economics I

Practice for Diagnostic #1

(Do NOT submit)

True/False/Uncertain
For these questions, you are given a prompt and asked whether you believe the statement is true,
false, or that you are uncertain as to whether it is true or false. You need to provide a sound
argument for the position you take on each prompt to get any credit.
There is no minimum or maximum length for a response. You will be graded for quality and not
quantity.
1. Capitalism causes inequality.

2. Based on the graphs above, between 1960 and 1970, West Germany and Japan were
growing at the fastest rate.

3. Indifference curves for different people can cross each other.

4. In the following figure, increasing Angela’s reservation wage and improving the growing
conditions will increase the size of the economically feasible set.
Applied Questions
The questions in this section ask you to apply some of the theories, models, and definitions from
class. Similar questions may be converted to either MCQs or True/False/Uncertain for your in-
class diagnostics.
5. Suppose we find ourselves in the following world:
• There are two countries: Vietnam and China.
• There are two goods each country can produce: phones and shoes.
• Vietnam can produce either 30 phones or 15 pair of shoes, or any convex
combination of the two, per hour.
• China can produce either 50 phones or 20 pair of shoes, or any convex combination
of the two, per hour.
a) Which good does Vietnam have a comparative advantage in? How about China?
b) What is the least number of phones Vietnam would be willing to accept for one
pair of shoes?
c) What is the greatest number of phones China would be willing to give up for one
pair of shoes?
d) Combine your answers to the two questions above to produce a range of phones
both countries would find acceptable to exchange for a pair of shoes. What does
this tell us about the exchange rate for shoes in terms of phones?

6. Consider the following technologies from class:

 a) Suppose that the wage is $20 per worker and the price of coal is $10 per ton.
Draw the iso-cost line through point A and the iso-cost line through point B.
Which technology would be chosen?
b) What would the relative price of inputs need to be for a firm to be indifferent
between technologies A and B?
c) Does there exist a relative price of inputs such that a firm would be indifferent
between technologies C, D, and E?

7. You are given the following table for a student’s production function with the final grade
(the output) related to the number of hours spent studying (the input). The table also gives
the marginal rate of substitution (MRS), i.e., how many grade points are equivalent in
value to one hour of free time.
Free time per day is given by 24 hours minus the hours of study per day.
• Calculate the missing numbers.
• What is the optimal number of hours spent studying? At this optimal point,
what grade will the student get?
Study hours 7 8 9
Grade 112 (b) (c)
Average product of labor 16 15 (d)
Marginal product of labor (a) 6 3
Free time (e) (f) (g)
Marginal rate of substitution 2 6 8

8. You have three choices for how you are going to spend your weekend.
i. You can go to the water park where the ticket costs $50, but you value the
experience at $100.
 ii. You can stay at home and watch TV, which doesn’t cost you anything out-of-
pocket. You value this experience at $20.
iii. You can go for a hike, which costs a $5 bus ticket to the mountain. You value the
hike at $50.

Calculate the opportunity cost, economic cost, and economic rent for each option.
Which one would you choose?

9. Consider the following static game:

p1\p2 w x y z
a 2;0 0;5 1;0 0;4
b 4;1 2;1 0;2 1;0
c 2;1 5;0 0;0 0;3
d 0;0 1;0 4;1 0;0

a) Does either player have a dominant strategy?

b) What is the Nash equilibrium?
c) Which outcomes are Pareto efficient?

10. Find the Subgame Perfect Equilibrium of the following game: