Micro1Solutions

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Unformatted text preview: ©Prep101 www.prep101.com/freestuff Q1. Last year CD-players were selling for $30 and MP3-players were selling for $40. David bought himself a CD-player for $30. Now CD-players sell for $50 and MP3players sell for $55. David’s friend offers him $50 for the CD-player. What is David’s opportunity cost if he decides to keep the CD-player? a) b) c) d) e) $55 $30 $40 $50 $55 Solution: d) $50 If David sells the CD-player, he will get $50. This is the highest valued alternative to keeping the CD-player. Q2. Dennis is self-employed and earns $30,000 a year. His total business expenses are $5,000. Dennis was offered a job at the local restaurant for $15,000 a year, but he turned down the offer. The economic profit Dennis gets from being self-employed is a) b) c) d) e) $25,000 $15,000 $10,000 $20,000 $45,000 Solution: c) $10,000 Economic profit = total revenue – opportunity cost =$30,000 - $5,000 - $15,000 = $10,000 Q3. Robert can produce either 2 units of good A or 2 units of good B in an hour, while Raymond can produce either 2 units of good A or 4 units of good B in an hour. What would be the total output of goods A and B in an 8-hour day if Raymond and Robert each specialized in producing the good for which they have a comparative advantage? a) b) c) d) e) 32 units of A and 48 units of B 16 units of A and 16 units of B 16 units of A and 32 units of B 8 units of A and 32 units of B 16 units of A and 8 units of B Solution: c) 16 units of A and 32 units of B Robert: opportunity cost of producing 1 unit of good A = 2 / 2 = 1 unit of B; opportunity cost of producing 1 unit of good B = 2 / 2 =1 unit of good A. Page 1 of 30 ©Prep101 www.prep101.com/freestuff Raymond: opportunity cost of producing 1 unit of good A = 4 / 2 = 2 units of B; opportunity cost of producing 1 unit of good B = 2 / 4 =1/2 units of good A. Robert has a lower opportunity cost of producing good A and produces 2X8=16 units of A in an 8-hour day. Raymond: has a lower opportunity cost of producing good B and produces 4X8 = 32 units of good B in an 8-hour day. Tony and Martha both can produce goods A and B. Use the following information to answer question 4: Good A Good A 200 200 150 150 100 100 Tony 50 50 50 100 150 200 Good B Martha 50 100 150 200 Good B Q4. If Tony and Martha each specialized in producing the good for which they have a comparative advantage, Tony would produce____ and Martha would produce____. a) b) c) d) e) 100 units of good B; 50 units of good A 250 units of good B; 250 units of good A 200 units of good B; 50 units of good B 200 units of good B; 150 units of good A 100 units of good A; 150 units of good A Solution: d) 200 units of good B; 150 units of good A Tony: the opportunity cost of producing 1 unit of good A =200/100 = 2 units of good B; Martha: the opportunity cost of producing 1 unit of good A =50/150 = 1/3 units of good B Martha has a comparative advantage in producing good A. Martha will produce 150 units of good A and Tony will produce 200 units of good B Page 2 of 30 ©Prep101 www.prep101.com/freestuff Q5. Using the same resources, Jan can produce either good X or good Y. As a result of a decrease in the price of good X, a) b) c) d) e) The quantity of good X supplied will increase The supply of good X will increase The supply of good X will decrease The supply of good Y will increase The supply of good Y will decrease Solution: d) The supply of good Y will increase Goods X and Y are substitutes in production. The price of good X decreases profits form producing good X are low the quantity supplied of X will decrease use resources to produce more good Y the supply of good Y will increase. Q6. Which of the following is true if a decrease in the price of good X causes the supply curve for good Y to shift to the left? a) b) c) d) e) Goods X and Y are substitutes in production Goods X and Y are complements in production X is a normal good and Y is an inferior good Goods X and Y are complements in consumption a) and d) Solution: b) Goods X and Y are complements in production A decrease in the price of good X the quantity supplied of good X decreases supply of complements in production falls good Y must be a complement in production. Q7. What will happen to the price and equilibrium quantity if demand for good X decreases and supply of X increases? a) The price will fall and the equilibrium quantity will increase b) The price will fall and the equilibrium quantity will decrease c) The price may increase, decrease or remain the same and the equilibrium quantity will decrease d) The price will fall and the equilibrium quantity may increase, decrease, or remain the same e) The price will increase and the equilibrium quantity may increase, decrease, or remain the same Solution: d) The price will fall and the equilibrium quantity may increase, decrease, or remain the same The equilibrium could move from A to C, E or B Page 3 of 30 ©Prep101 www.prep101.com/freestuff Price S1 A C E B D1 Quantity Use the following graph for good A to answer questions 8 and 9: Price I A B C Marginal Cost E F G H D Marginal Benefit Marginal Revenue Q1 Q2 Quantity of good A Q8. If the price increases from B to A, in a perfectly competitive market, the consumer surplus a) b) c) d) e) Will decrease by the area EFG Will decrease by the area EHG Will decrease by the area ABFE Will decrease by the area ABGE Will increase by the area EFG Solution: d) Will decrease by the area ABGE P=B CS= IBG P=A CS= IAE P increases CS decreases by IBG – IAE =ABGE Page 4 of 30 ©Prep101 www.prep101.com/freestuff Q9. Assume the market for good A is perfectly competitive. If the government imposes a quota and only Q1 units of good A are allowed to be produced, a) b) c) d) e) There is a deadweight loss equal to the area EFG There is a deadweight loss equal to the area FHG There is a deadweight loss equal to the area EHG There is a deadweight loss equal to the area AEHC There is a deadweight loss equal to the area AEFB Solution: c) There is a deadweight loss equal to the area EHG With no quota, Q2 would be produced the sum of CS and PS would equal IGD. With quota, Q1 is produced the sum of CS and PS equals IEHD. Deadweight loss = IGD – IEHD = EHG Use the following graph of a competitive market for good Z to answer question 10: Price ($) 10 S 8 7 6 4 D 5 11 14 17 Quantity of Z Q10. If the producers of good Z secure a government subsidy and increase production to 14 units, which of the following statements is correct? a) b) c) d) e) There is an additional surplus to the society equal to $4.5 The production of Z has become more efficient There is a deadweight loss equal to $6 There is a deadweight loss equal to $4.5 There is an additional surplus to the society equal to $12 Solution: d) There is a deadweight loss equal to $4.5 The efficient quantity is 11 units. At 14 units, MC>MB (1/2)*(7 – 4)*(14 - 11) = $4.5 Page 5 of 30 there is social loss equal to: ©Prep101 www.prep101.com/freestuff Q11. The price elasticity of a horizontal demand curve is____ and the price elasticity of a vertical demand curve is ____. a) b) c) d) e) Zero; infinity Zero; 1 Infinity; zero Infinity; 1 1; zero Solution c) Infinity; zero Horizontal demand curve price does not change % ∆P = 0 Vertical demand curve quantity does not change %∆Q = 0 %∆Q →∞ %∆P %∆Q εd = →0 %∆P εd = Q12. All else constant, ______________, the more elastic is the demand. a) b) c) d) e) The greater the proportion of income spent on a good The closer the substitutes for a good The longer the time that has passed after the price change All of the above None of the above Solution: d) All of the above When an item takes a large proportion of the budget, consumers become more responsive to changes in price. If the price for an item increases and there are close substitutes in the market, consumers are likely to switch to substitutes. When price of an item increases, consumers may continue buying the good, but over time they are likely to adjust their consumption patterns. Q13. Suppose the price of good X falls from $6 per unit to $4 per unit. If the price elasticity of demand is 0.6 (calculated using the midpoint method), what will happen to the quantity demanded of good X? a) b) c) d) e) Will decrease by 24% Will increase by 40% Will increase by 24% Will decrease by 40% Will not be affected Solution: c) Will increase by 24% %∆Q %∆Q εd = = = 0.6 %∆P (4 − 6) /[(4 + 6) / 2] Page 6 of 30 ©Prep101 www.prep101.com/freestuff %∆Q =0.6 * 40%=24% Q14. Suppose 22 units of good A are demanded at a particular price. If the number of units of good A demanded falls to 18 when the price per unit rises by 2 percent, a) b) c) d) e) demand for good A in this price range must be demand for good A in this price range must be demand for good A in this price range must be demand for good A in this price range must be demand for good A in this price range must be inelastic elastic unit elastic perfectly elastic perfectly inelastic Solution: b) demand for good A in this price range must be elastic %∆Q (18 − 22) /((18 + 22) / 2) εd = = = 10 >1 %∆P 0.02 Q15. As a result of an increase in the price of good B from $7.50 to $8.50, the quantity of good B supplied increases from 115 units to 135 units. Which of the following statements is correct? a) b) c) d) e) The supply of good B is elastic and the elasticity equals to 1.28 The supply of good B is inelastic and the elasticity equals to 1.28 The supply of good B is elastic and the elasticity equals to 0.78 The supply of good B is inelastic and the elasticity equals to 0.78 The supply of good B is elastic and the elasticity equals to 2.50 Solution: a) The supply of good B is elastic and the elasticity equals to 1.28 %∆Q (135 − 115) /[(135 + 115) / 2] εs = = = 1.28 %∆P (8.5 − 7.5) /[(8.5 + 7.5) / 2] Page 7 of 30 ©Prep101 www.prep101.com/freestuff Use the following graph to answer question 16: Total Revenue Good X Good Y Quantity Q16. Which of the following statements is true? a) b) c) d) e) The price elasticity of good X is higher than the price elasticity of good Y The price elasticity of good Y is higher than the price elasticity of good X The price elasticity of goods X and Y cannot be calculated with given information Good X is a normal good and good Y is an inferior good None of the above Solution: e) None of the above The revenues from selling goods X and Y do not change (note: the vertical axis shows total revenue, not price) as the quantities sold change %∆Q = %∆P The price elasticity of demand equals 1 for both goods X and Y. Page 8 of 30 ©Prep101 www.prep101.com/freestuff Use the following graph to answer questions 17 and 18: Price ($) SS 1000 900 800 LS D2 D1 100 120 140 Quantity (thousands of units) Q17. Suppose the market for rental housing is unregulated. What will happen in the short run if the demand for rental housing increases from D1 to D2? a) b) c) d) e) The number of units rented will increase to 120,000 and rent will rise to $900 The number of units rented will remain at 100,000, but rent will rise to $1,000 The number of units rented will increase to 140,000, but rent will remain at $800 There will be an excess quantity of housing units demanded of 40,000 units None of the above Solution: a) The number of units rented will increase to 120,000 and rent will rise to $900 Demand for rental housing increases and the demand curve shifts right new short run equilibrium occurs where the short run supply curve intersects the demand curve quantity =120,000 and price = $900. Q18. Suppose the market for rental housing is regulated. What will happen in the short run if the demand for rental housing increases from D1 to D2 and there is a strictly enforced rent ceiling at $800 per unit? a) b) c) d) e) There will be a housing shortage of 20,000 units There will be a housing shortage of 40,000 units There will be an excess supply of 40,000 units of housing There will be an excess supply of 20,000 units of housing Increase in demand will have no effect of the number of housing units rented Solution: b) There will be a housing shortage of 40,000 units With no rent ceiling, an increase in demand would result in higher prices and the suppliers of housing units would be willing to increase the quantity supplied. With rent ceiling at $800, the suppliers are not willing to supply more than 100,000 units the Page 9 of 30 ©Prep101 www.prep101.com/freestuff quantity demanded increases to 140,000, but the quantity supplied remains at 100,000 a shortage of 40,000 units. Suppose good X is a prohibited good. Use the following table to answer question 19: Price of good X ($) Quantity of good X Demanded Quantity of good X supplied 11 5000 3000 12 4000 4000 13 3000 5000 14 2000 6000 15 1000 7000 Q19. Which of the following is true if a $2-per-unit cost of breaking the law is imposed on buyers? a) b) c) d) e) 3000 units will be sold at $11 per unit 3000 units will be sold at $12 per unit 2000 units will be sold at $11 per unit 4000 units will be sold at $12 per unit 5000 units will be sold at $11 per unit Solution: e) 3000 units will be sold at $11 per unit The supply schedule does not change. For buyers, the actual cost increases by $2 and they are willing to buy 2000 units less at any given price. New demand and supply schedule: Price of good X ($) Quantity of good X Demanded Quantity of good X supplied 11 3000 3000 12 2000 4000 13 1000 5000 14 0 6000 Q20. The minimum wage laws are more likely to a) b) c) d) e) Increase unemployment among high-skilled workers Increase unemployment among low-skilled workers Decrease unemployment among low-skilled workers Decrease unemployment among high-skilled workers Both a) and c) Solution: b) Increase unemployment among low-skilled workers Minimum wage laws have an effect only when they are set above the market equilibrium level. High-skill workers are not affected by these laws, because their wage rates by far exceed the minimum wage. Low-skilled workers, on the other hand, may be willing to Page 10 of 30 ©Prep101 www.prep101.com/freestuff take wages lower than the minimum wage, but employers cannot hire them. Labour supplied exceeds labour demanded leading to unemployment among unskilled workers. Q21. Kathy consumes only two goods: apples and pizza. Both apples and pizza sell at $5. When Kathy spends all of her income, her marginal utility of apples is 6 and her marginal utility of pizza is 7. Which of the following statements is correct? a) b) c) d) e) Kathy could be better off by consuming less pizza and more apples Kathy could be better off by consuming fewer apples and less pizza Kathy could be better off by consuming fewer apples and more pizza Kathy has maximised her utility by consuming at an optimal level None of the above Solution: c) Kathy could be better off by consuming fewer apples and more pizza Utility is maximised when the marginal utility per dollar spend is equal for both goods: MU apple MU pizza MU apple 6 MU pizza 7 = = and = . Currently Papple Ppizza Papple 5 Ppizza 5 MU apple Papple < MU pizza Ppizza Consume more pizza and fewer apples Use the following table to answer question 22: Fish Pounds consumed 0 1 2 3 4 5 Beef Total utility 0 15 29 41 50 54 Pounds consumed 0 1 2 3 4 5 Total utility 0 30 55 74 85 87 Q22. Suppose the price of fish is $10 per pound and the price of beef is $8 per pound. If Susan has $44, how much of each good should she purchase to maximize utility? a) b) c) d) e) 5 pounds of beef and 0 pounds of fish 4 pounds of beef and 1 pounds of fish 3 pounds of beef and 2 pounds of fish 2 pounds of beef and 3 pounds of fish 1 pound of beef and 4 pounds of fish Solution: c) 3 pounds of beef and 2 pounds of fish Page 11 of 30 ©Prep101 www.prep101.com/freestuff The marginal utility of the first pound of beef is 30, whereas the marginal utility of the first pound of fish is 15. So, buy 1 pound of beef. The marginal utility of the 2nd pound of beef is 25, which is still higher than the 1st pound of fish. So, by another pound of beef. Buy 3rd pound of beef following the same logic. The marginal utility from the 4th pound of beef is 11 buy one pound of fish. The marginal utility of the 2nd pound of fish is $14 buy another pound of fish. 3 pounds of beef and 2 pounds of fish. Q23. Suppose Sarah consumes two ordinary goods. She is at a point on her budget line where her marginal rate of substitution is greater than the magnitude of the slope of her budget line. As Sarah moves towards her optimum point, she will move to a) b) c) d) e) A flatter budget line A higher indifference curve A lower budget line A steeper budget line A lower indifference curve Solution: b) A higher indifference curve The magnitude of the slope of the budget line = relative price MRS = slope of Indifference curve Sarah’s optimum point is where Relative Price = MRS Currently MRS >Relative Price lower MRS by consuming more of good measured on the x axis and less of good measured on y axis. Q24. Janet consumes pizza (measured on the x-axis) and orange juice (measured on yaxis). Suppose Janet’s income increases three-fold, while the prices of pizza and orange juice increase two-fold. Janet’s budget line will a) b) c) d) e) Shift left but not change slope Not shift but become flatter Shift right but not change slope Not shift but become steeper Shift right and become flatter Solution: c) Shift right but not change slope PxQx + PyQy = I (income) Budget line = Qy = I/Py – (Px/Py)Qx Income and prices increase Qy = (3*I) / 2*Py – (2*Px/2*Py)*Qx Qy = 1.5* (I/Py)– (Px/Py)Qx slope does not change, but the BL shifts right. Page 12 of 30 ©Prep101 www.prep101.com/freestuff Use the following figure to answer question 25: Good Y B C A D E Good X Q25. Suppose Brian consumes at point A. Assume both X and Y are normal goods. If the price of good X rises, the substitution effect is _____ and the income effect is ______. a) b) c) d) e) Movement from A to D; movement from D to E Movement from A to B; movement from B to C Movement from A to B; movement from B to E Movement from A to E; Movement from E to C Movement from A to C; Movement from C to E Solution: b) Movement from A to B; movement from B to C Price of good X rises budget line rotates inward. Account for the change in relative price while leaving utility unchanged draw a line that is parallel to the new budget line and tangent to the original indifference curve consume less X and more Y movement from A to B. At C, the new budget line is tangent to the highest level indifference curve consume less X and less Y movement from B to C. Q26. Suppose there are two goods, good X and good Y. Let the Income be given by I, the quantity of good X demanded be Qx and the quantity of good Y demanded be Qy. The price of a unit of good X is $5 and the price of a unit if good Y is $3. The budget equation is given by a) b) c) d) e) Qy = Qy = Qy = Qx = Qx = (1/3)*(I – 5Qx) (1/5)*(I – 3Qx) I – 5* Qx (1/3)*(I – 5Qy) 5*(I – 3Qy) Solution: a) Qy = (1/3)*(I – 5Qx) Page 13 of 30 ©Prep101 www.prep101.com/freestuff PxQx + PyQy = I Qy = I/Py – (Px/Py)Qx = (1/3)*I – (5/3)*Qx = (1/3)*(I – 5Qx) Use the following table to answer question 27: Method A B C Quantity of Labour 10 15 20 Quantity of Capital 15 12 10 Q27. If the price of labour is $8 per unit and the price of capital is $15 per unit, which of the three methods of production is (are) not economically efficient? a) b) c) d) e) Method A Method B Methods B and C Methods A and C Methods A, B, and C Solution: d) Methods A and C Method A costs: 10*8 + 15*15 = 305 Method B costs: 15*8 + 12*15 = 300 Method C costs: 20*8 + 10*15 = 310 Method B is economically efficient Q28. George produces and sells 100 rocking-chairs a year. Each chair sells at $30. George’s opportunity cost is $2,200. If George spends $500 to buy materials, what is his economic profit? a) b) c) d) e) $800 $300 $2,500 $3,000 $2,700 Solution: a) $800 Revenue= 100*30 = $3,000 Opportunity cost = $2200. The cost of materials are already included in the opportunity cost. Economic profit= Revenue - Opportunity cost = 3000 – 2200 = $800 Page 14 of 30 ©Prep101 www.prep101.com/freestuff Suppose there are only 4 firms in the Steel industry and 5 firms in the Coal industry. Use the following information to answer question 29: Steel Industry Firm A B C D Coal Industry Firm E F G H I Sales 350 300 250 100 Q29. What is the Herfindahl-Hirschman Index in the Steel industry? a) b) c) d) e) 1850 2850 3000 1000 500 Solution: b) 2850 Total sales = 350 + 300 + 250 + 100 = 1,000 Firm A’s market share = 350 / 1000 = 35% Firm B’s market share = 300 / 1000 = 30% Firm C’s market share = 250 / 1000 = 25% Firm D’s market share = 100 / 1000 = 10% HHI =35^2 + 30^2 + 25^2 + 10^2= 2850 Page 15 of 30 Sales 300 250 200 150 100 ©Prep101 www.prep101.com/freestuff Use the following figure of short-run average cost curves to answer question 30: Cost MC 1 2 3 Output Q30. The vertical gap between curves 1 and 3 is equal to a) b) c) d) e) Average variable cost Average fixed cost Average total cost Average marginal cost Opportunity cost Solution: a) Average variable cost Curve 1 = ATC, Curve 2= AVC, Curve 3 = AFC. ATC = AFC + AVC ATC – AFC = AVC. Q31. A firm’s marginal cost is 40, its average total cost is 60, and its output is 200 units. If minimum average total cost is achieved at 220 units, the firm’s total cost of producing 201 units is a) b) c) d) e) Between 12,000 and 12,040 Between 13,200 and 13,040 Between 12,000 and 12,060 Less than 8,800 Greater than 13,200 Solution: c) Between 12,000 and 12,060 MC= 40, ATC = 60 ATC = TC / Q TC = ATC*Q TC of producing 200 units = 60*200=12,000. TC of producing 201 units > 12,000 When 200 units are produced, MC < ATC When 220 units are produced, MC = ATC Page 16 of 30 ©Prep101 www.prep101.com/freestuff When 201 units are produced MC < ATC TC of producing 201 units is between 12,000 and 12,060 Use the following figure of a perfectly competitive firm’s short-run and long-run cost curves to answer question 32: Price and Cost MC SRAC LRAC $10 20 25 100 180 Output Q32. Given that the price of a unit of output is $10, the firm will want to a) b) c) d) e) Reduce its plant size and produce 100 units of output Expand its plant size and produce 180 units of output Reduce its plant size and produce 25 units of output Expand its plant size and produce 100 units of output Expand its plant size and produce 25 units of output Solution: d) Expand its plant size and produce 100 units of output Firm is currently producing 25 units of good. In the long run, the optimal amount of output is 100 the firm needs to employ more capital. Q33. Suppose in a perfectly competitive industry, a firm produces (and sells) 20 units of good. If the firm operates at the break-even point and incurs total costs of $300, variable costs of $240 and fixed costs of $60, what is the marginal revenue from selling one more unit of good? a) b) c) d) e) $3 $10 $12 $15 $20 Solution: d) $15 Break-even point Economic Profit = TR – TC =0 Page 17 of 30 TR = TC ©Prep101 www.prep101.com/freestuff TC = $300 TR =$300. Output = 20 P= $300 / 20 =$15. MR= P = $15 Use the following figure to answer question 34: P MC 8 ATC AVC 7 6 MR 5 10 D 15 18 Q Q34. Assume this is a single-price monopoly. At the profit-maximizing output, total cost is closest to a) b) c) d) e) $60 $78 $55 $49 $45 Solution: b) $78 TC= ATC*Q Profit is maximized when Q= 10 TC =ATC*10 When Q=10, ATC is between $7 and $8 TC is between 70 and 80 Page 18 of 30 ©Prep101 www.prep101.com/freestuff Use the following figure of a single-price monopoly to answer question 35: P 10 8 6 MC 4 2 MR 10 20 D 30 40 Q Q35. If this market were perfectly competitive, the output level would exceed the singleprice monopoly output level by a) b) c) d) e) 5 units of output 20 units of output 10 units of output 30 units of output 15 units of output Solution: c) 10 units of output Under perfect competition, MR=D=MC Q=20 Under single-price monopoly, MR =MC, but MR<D The difference=20 -10= 10. Page 19 of 30 Q=10. ©Prep101 www.prep101.com/freestuff Use the following figure to answer question 36: Price MC 200 180 170 160 140 ATC D2 110 MR2 D1 80 60 MR1 40 20 50 250 350 400 500 550 650 Quantity Q36. Assume in a monopolistic competition, a profit maximising firm faces demand curve D2. In the short-run, economic profit (loss) is a) b) c) d) e) 100,000 30,000 20,000 -10,000 0 Solution: b) 30,000 EP= (P –ATC)*Q. Profit is maximized when MC=MR2 Q= 500, Price = 200, ATC= 140. EP= (P –ATC)*Q = (200 – 140)* 500 = 30,000 Use the following table showing the payoff matrix for a non-repeated duopoly game to answer question 37: Firm Y Lower Price Increase Price X: $4 X: $40 Lower Price Firm X Y: $10 Y: -$20 X: -$20 X: $20 Increase Price Y: $50 Y: $40 Page 20 of 30 ©Prep101 www.prep101.com/freestuff Q37. In equilibrium, firm Y’s payoff is a) b) c) d) e) $10 -$20 $50 $40 $0 Solution: a) $10 If X anticipates Y to lower the price, 1) X will make $4 if it, too, lowers price, 2) X will incur a loss of $20 if it increases price X should lower price. If X anticipates Y to increase the price, 1) X will make $40 if it lowers price, 2) X will make $20 if it increases price X should lower price. The dominant strategy for X is to lower the price. If Y anticipates X to lower the price, 1) Y will make $10 if it, too, lowers price, 2) Y will incur a loss of $20 if it increases price Y should lower price. If Y anticipates X to increase the price, 1) Y will make $50 if it lowers price, 2) Y will make $240 if it increases price Y should lower price. The dominant strategy for Y is to lower the price. A unique Nash equilibrium occurs when both lower prices Use the following figure to answer question 38: Wage rate ($/h) S 9 8 7 6 5 10 20 30 40 50 Labour Q38. At the wage rates above $7 per hour _____, and at the wage rates below $7 per hour____. a) The income effect is smaller than the substitution effect; the income effect is greater than the substitution effect b) The income effect is greater than the substitution effect; the income effect is smaller than the substitution effect c) The income effect equals the substitution effect; the income effect is greater than the substitution effect Page 21 of 30 ©Prep101 www.prep101.com/freestuff d) The income effect is smaller than the substitution effect; the income effect equals the substitution effect e) There is a shortage of labour supply in the market; labour market is in equilibrium Solution: b) The income effect is greater than the substitution effect; the income effect is smaller than the substitution effect When the wage rate is low, as the wage rate increases, more labour is supplied SE >IE. When the wage rate is high, income increases and thus, demand for normal goods increases demand for leisure (normal good) increases consume more leisure and work less until IE>SE and labour supply curve starts to bend backward. Use the following supply schedule of a resource to answer question 39: Price of a resource ($) 5 6 7 8 9 10 Quantity of resource supplied 1 2 3 4 5 6 Q39. What is economic rent if 3 units are supplied at a price of $7 per unit? a) b) c) d) e) $21 $15 $8 $3 $0 Solution: d) $3 Economic rent = the income received by the owner of a resource over and above the opportunity cost. It’s measured as the area below the market price and above the supply curve. Economic rent from the 1st unit of resource = $7 - $5= $2 Economic rent from the 2nd unit of resource = $7 - $6= $1 Economic rent from the 3rd unit of resource = $7 - $7= $0 Economic rent = $2 + $1= $3. Page 22 of 30 ©Prep101 www.prep101.com/freestuff Q40. A machine that costs $1,500 and is expected to last for two years will generate marginal revenue product of $1,050 annually. What is the present value of the machine, if the interest rate is 5 percent? a) b) c) d) e) $2,245 $1,500 $1,952 $1,000 $500 Solution: c) $1,952 PV = $1,050/ (1+0.05) + $1,050/ [(1+0.05) ^2] = $1,000 + $952 =$1,952. Use the following figure to answer question 41: Wage rate (S per hour) MCL S $12 $10 $8 MRP 10 15 16 20 Labour Q41. If this labour market were controlled by a monopsony, then the equilibrium wage rate would be a) b) c) d) e) $12 $10.5 $10 $8 None of the above Solution: d) $8 Profit is maximized when MCL= MRP L=10. Monopsony would hire 10 units of labour and would pay lowest wage rate possible, $8. Page 23 of 30 ©Prep101 www.prep101.com/freestuff Suppose the demand for labour is given by LD curve and the supply is given by the LS curve. Use the following figure to answer question 42: Wage rate ($) LS + tax 8 LS 6 5 4 LD 2 10 20 30 40 50 Labour (hours) Q42. If an income tax is imposed, the government will collect ___ in tax revenue; the workers will pay ___ and the employers will pay ___ in taxes. a) b) c) d) e) $40; $20; $20 $40; $40; $0 $40; $0; $40 $20; $10; $10 $20; $20; $0 Solution: a) $40; $20; $20 After the income tax is imposed, equilibrium L = 20 and W = $6. The workers receive only $4 per hour tax revenue= 20* (6 – 4) = $40. Before tax, wage rate was $5. Now employers pay $6 and the employees receive $4 per hour of labour each pay $20. In this case, both employers and workers pay the same amount. Note that this is not always true. The split will depend on the elasticities of demand and supply. Page 24 of 30 ©Prep101 www.prep101.com/freestuff Use the following table to answer question 43: Current gross income $4,000 $8,000 $10,000 Tax payment Plan C Plan B $200 $500 $800 $500 $2,000 $500 Plan A $200 $400 $800 Plan D $100 $200 $400 Q43. Which tax plan is proportional? a) b) c) d) e) Plan A. Plan B. Plan C. Plan D. None of the above Solution: e) None of the above Under proportional income tax system, income is taxed at a fixed rate, regardless of the level of income. Current gross income $4,000 $8,000 $10,000 Plan A $200 5% $400 5% $800 8% Tax payment Plan C Plan B $200 5% $500 12.5% $800 10% $500 6% $2,000 20% $500 5% Plan D $100 2.5% $200 2.5% $400 4.0% Use the following table to answer question 44: p $1.00 $1.50 $2.00 $2.50 $3.00 $3.50 Quantity demanded 300 280 260 240 220 200 Quantity supplied 220 240 260 280 300 320 Q44. Suppose a $1.00 excise tax is added to each unit of a commodity. What is the total amount of tax revenue raised by the government? a) b) c) d) e) $550 $400 $360 $240 $100 Page 25 of 30 ©Prep101 www.prep101.com/freestuff Solution: d) $240 In new equilibrium, QS = QD = 240 Tax revenue = $1.00 * 240 = $240 p Quantity demanded 260 240 220 200 180 160 $2.00 $2.50 $3.00 $3.50 $4.00 $4.50 Quantity supplied 220 240 260 280 300 320 Use the following figure of a natural monopoly to answer question 45: Price ($) 30 20 18 16 15 ATC 10 MC MR 10 40 60 D 80 Quantity Q45. If the producer captures the regulator, the economic profit is a) b) c) d) e) $800 $400 $120 $80 $0 Solution: d) $80 The producer captures the regulator unregulated monopoly outcome profit is maximised where MR=MC Q=40, P=20. ATC = 18. Economic profit = TR – TC = P*Q- ATC*Q = (P – ATC)*Q = (20- 18)*40 = 80 Page 26 of 30 ©Prep101 www.prep101.com/freestuff Use the following figure of oligopolistic industry to answer question 46: Price ($) 10 MC 8 6 4 2 D MR 5 10 15 20 25 Quantity Q46. If the industry is regulated according to the capture theory, ____ units of output will be produced and ___ of deadweight loss will be created. a) b) c) d) e) 15; $0 10; $20 10; $10 10: $90 10; $0 Solution: c) 10; $10 Capture theory monopolistic outcome produce where MC=MR Deadweight loss = (½)*(8 -4)*(15-10) = $10 Q= 10 and P = 8 Use the following table to answer question 47: Nitrogen dioxide (tonnes) 1 2 3 4 5 6 Total Benefit ($) $160 $300 $420 $520 $600 $660 Marginal Social Cost ($) 40 60 80 100 120 140 Q47. The efficient level of pollution is _____ tons. a) b) c) d) e) 1 ton 2 tonnes 3 tonnes 4 tonnes 5 tonnes Page 27 of 30 ©Prep101 www.prep101.com/freestuff Solution: d) 4 tonnes Efficient level is achieved when MB = MSC Nitrogen dioxide (tons) 1 2 3 Total Benefit ($) $160 $300 $420 4 tonnes Marginal Benefit 140 120 Marginal Social Cost ($) 40 60 80 4 $520 100 100 5 6 $600 $660 80 60 120 140 Use the following figure to answer question 48: Cost & benefit ($) 20 15 10 5 MB 2 4 6 8 Quantity Q48. Suppose the marginal cost is $15, and this cost is independent of the quantity produced. An independent government agency determines that the efficient number of output is 6. The marginal external benefit is ___. a) b) c) d) e) $20 $15 $10 $5 $0 Solution: d) $5 Marginal external benefit = MSB – MPB Efficient output is achieved where MC = MSB MSB = $15 When Q = 6, MPB = $10 Marginal external benefit = $15 - $10 = $5 Page 28 of 30 ©Prep101 www.prep101.com/freestuff Use the following figure to answer question 49: Cost & benefit ($) MSC 12 10 MPC 8 6 4 D=MB 0 50 70 Quantity Q49. Suppose the government wants to impose Pigovian tax to enforce the efficient level of output. The government will collect ___ in tax revenues and will eliminate a deadweight loss equal to ___ associated with the externality. a) b) c) d) e) $240; $40 $200; $80 $200; $40 $120; $20 $100; $40 Solution: c) $200; $40 Efficient output, Q= 50 units, and per unit tax $4 Tax revenue = 50*4 = $200 Deadweight loss associated with the externality = (1/2)*(70- 50)*(10 – 6) = $40 Page 29 of 30 ©Prep101 www.prep101.com/freestuff Use the following figure to answer question 50: $ S = MC 5 4 3 MSB 2 1 MB = D 5 10 15 20 25 Quantity Q50. What is the amount of a voucher that government needs to provide for the outcome to be efficient? a) b) c) d) e) $5 $4 $3 $2 Cannot be determined with given information Solution: d) $2 To achieve efficient allocation, need to set the value of the voucher equal to the marginal external benefit. The marginal external benefit = $2. If voucher of $2 is paid, the demand curve shifts rightward (D=MSB) and the equilibrium occurs where MSB = MC Q= 20 Page 30 of 30 ...
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This note was uploaded on 08/26/2010 for the course ECON 208 taught by Professor Dickenson during the Fall '07 term at McGill.

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