# Sample Midterm 2 Answer Key - Economics 275 Spring 2007...

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Economics 275– Spring 2007 Midterm #2 Directions: You have 75 minutes to complete the exam. Please place your final answer in the space provided below. Partial credit will be given for work that is both carefully done and legible. Good luck! Problem 1 (25 points) – The Incidence of a Subsidy Consider the following supply and demand curves for a competitive market: Q d = 50 P d /2 Q s = P s 10 a) (5 points) Find the equilibrium price and quantity prior to the introduction of the subsidy. First rewrite in terms of inverse demand: P D = 100 – 2Q D P S = 10 + Q S In equilibrium P D = P S 100 – 2Q = 10 + Q 90 = 3Q Q = 30 P = 40 PRICE ______________40______________ QUANTITY _________30_________________ b) (10 points) Now, suppose that the government provides a unit subsidy of \$6 to producers for every unit sold in this market. What is the new equilibrium price and quantity? How much does this subsidy cost the government? In equilibrium P D + 6 = P S 10 + Q = 100 – 2Q + 6 3Q = 96 Q = 32 P D = 36 P S = 42 Cost = 6*32 = 192

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CONSUMER PRICE ___________36_________________ PRODUCER PRICE ___________42_________________ QUANTITY _________________32___________ COST TO GOVERNMENT _____192_______________________ c) (10 points) Now, suppose that the government imposes an ad-valorem subsidy of 50 percent to producers. That is, for every dollar of firm revenue, the government provides the firm with a 50-cent subsidy. What is the new equilibrium price and quantity? How much does this subsidy cost the government? P
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Sample Midterm 2 Answer Key - Economics 275 Spring 2007...

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