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# midterm 2006 - answers - UBC Commerce FRE 295 SOLUTIONS TO...

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1 UBC Commerce/ FRE 295 SOLUTIONS TO THE MIDTERM EXAM PART I TRUE-FALSE QUESTIONS: Mark each question as true or false, by putting an “X” in the appropriate box. There is one mark for each true-false question. 1. Researchers estimated the following demand function for Plasma TVs in the Lower Mainland: Q d = 1,000,000 – 200P. DVD players are also being sold, and these players are a complement for Plasma TVs. True False The demand for Plasma TVs is relatively elastic for a high quantity of sales, and relatively inelastic for a low quantity of sales. The elasticity of demand for Plasma TV’s equals -1 if P = \$2,500. When the price for Plasma TVs increases, we can predict that the demand for DVD players will also increase. If there is only one firm producing and selling Plasma TVs, this firm must be maximizing profits if it is producing in the elastic region of its demand curve. 2. A government artificially setting price at a level below the equilibrium price (i.e. imposing a price ceiling) will: True False Decrease producer surplus and decrease the sum of consumer and producer surplus. Always result in an increase in consumer surplus. Always cause the aggregate cost of production by firms to decrease. Result in no impact on equilibrium quantity if either supply or demand is perfectly inelastic.

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2 3. Industry supply of a homogeneous product comes from of two types of perfectly competitive producers, A and B. The aggregate supply curve for type A producers is given by Q A = -5 + 0.5P and the aggregate supply curve for type B producers is given by Q B = -8 + 0.5P. True False When price is above 16, the total industry supply curve is given by Q = -13 + P. When price is above 10 and below 16, the total industry supply curve is given by Q = -8 + 0.5P. At a given price above 16, type A and type B firms will always produce different amounts. For all prices greater than or equal to zero, surplus for type A producers exceeds surplus for type B producers. 4. Jenny’s preferences can be characterized by the utility function U(w)=w 3/2 , where w is her level of wealth. She lives in Vancouver and knows that with probability 0.00001 (i.e., 0.001%), an earthquake will totally destroy her house, which is worth \$1,000,000. Jenny has no wealth other than her house. True False In the absence of insurance, Jenny’s expected wealth is equal to \$999,990. The standard deviation of Jenny’s wealth is close to zero because the probability of an earthquake is close to zero. Jenny has increasing marginal utility of income. A risk-neutral insurance company can profitably sell Jenny insurance, which would cover the total value of her house in case of an earthquake.
3 5. According to the standard graphs of production, when: True False Total product is increasing at an increasing rate, marginal product is positive and decreasing .

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