Sample_Midterm_2008[1] - 1 Sample Midterm Instructions: Do...

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1 Sample Midterm Instructions: Do all questions in Part I. Answer 1 question in Part II. Part I Answer all questions in Part I. 1. New York State allocates its $1 million transportation budget between maintenance of rail lines and maintenance of highways (both are measured in miles).The cost of maintaining one mile of rail is $50 and the cost of maintaining one mile of highway is $100. a) (3 points) Putting rail lines on the x-axis and highway miles on the y-axis illustrate New York State’s budget set. What is the opportunity cost of maintaining an additional rail mile? Show (algebraically) that NY State can afford to maintain 6000 miles of highway and 8000 miles of rail line. b) (4 points) Suppose that NY State’s MRS at (8000,6000) is 1. Is (8000,6000) NY State’s best bundle? Why or why not? Briefly explain your answer. If not will NY State choose to spend more or less money on rail maintenance? Illustrate the indifference curve through (8000,6000) in your diagram from part (a). Suppose that the federal government would like to encourage the states to spend more money to maintain rail lines. The federal government is willing to provide a subsidy of $10 per mile of rail line maintained above 10,000 miles. Hence NY State must pay $50 per mile for each mile up to 10,000 and $40 per mile for every mile thereafter. c) (4 points) In a new diagram illustrate NY State’s budget set given the Federal government’s offer of a subsidy. Be sure to include your budget line from part (a). d) (4 points) If before the subsidy program was announced NY State had planned to program? Use your diagram to explain your answer. 2. Bruce must decide how to allocate his 24-hour day between non-wage activities, leisure , and wage activities, labor . For every hour of labor that he supplies he is paid by his employer $w . Bruce can purchase bottles of beer at a price of $1 per bottle (and beer is the only consumption good). Bruce has no non-wage income. Finally assume that Bruce’s preferences over leisure and beer can be represented by the following utility function: U( l ,b) = b + 120 ln ( l ) . a) (9 points) Find Bruce’s demand functions for leisure and beer. What is Bruce’s supply curve for labor? Is his supply of labor upward sloping or downward sloping? b) (5 points) Suppose that Bruce’s wage is $10 . Given the demand functions that you found in part (a) what are Bruce’s demands for leisure and beer when his wage is $10? What is his supply of labor? What is the elasticity of Bruce’s supply of labor at a wage of $10?
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2 c) (2 points) Suppose that Bruce’s wage rises to $12 . Given the demand functions
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Sample_Midterm_2008[1] - 1 Sample Midterm Instructions: Do...

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