# Q3F11AnswersExplained - Quiz 3 Fall 2011 True/False Bubble...

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Quiz 3, Fall 2011, November 16, 2011 True/False Bubble in A for True and B for False 1. If the supply of a good is perfectly inelastic, a sales tax on buyers of the good will not decrease consumer surplus. Answer: True The graph below shows a perfectly inelastic supply curve. Without the tax, the equilibrium price is P*. When a tax of T is levied on buyers, the demand curve shifts down by the amount of the tax. This curve is the dashed line in the figure. The price sellers receive is P*-T. The price decline by the full amount of the tax. However, buyers must pay the tax, so the price to them is P*-T + T = P*. The after-tax price to them hasn’t changed, so their consumer surplus hasn’t changed either. The full burden of the tax is borne by sellers. Price Quantity Demand Supply T P* P*- T

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2. If the competitive equilibrium wage exceeds the minimum wage, a decrease in the minimum wage will decrease involuntary unemployment. Answer: False The diagram below shows the demand for labor and the supply of labor with the competitive equilibrium wage above the minimum wage. The competitive equilibrium wage is W*. The minimum wage is represented by the dashed line. Note that the minimum wage is below W*. Because the minimum wage is below the competitive equilibrium wage, there is no involuntary unemployment. The demand for workers is equal to the supply of workers. A decrease in the minimum wage wouldn’t change this. The minimum wage would still be below the equilibrium wage, and demand would equal supply. Wage Workers Demand Supply Minimum Wage W*
3. A profit-maximizing firm hires the number of workers that maximizes the firm’s marginal value product of labor. Answer: False Remember experiment 5? In session 1 and 2, the marginal value product of the first worker was \$20, and the marginal value product of the second worker was \$10. If the wage is \$5, for example, how many workers should the firm hire? It should hire two workers. To maximize profits, it should hire any worker for whom the marginal value product of labor is greater than or equal to the wage, and it should not hire any worker for which the marginal value product of labor is less than the wage. Because the marginal value product of the first worker is \$20, the marginal value product of the second is \$10, and the wage is \$5, the firm should hire both workers. Note, however, that if the firm wanted to maximize the marginal value product of labor, it should hire one worker (MVP = \$20), not two workers (MVP=\$10). Multiple Choice

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Q3F11AnswersExplained - Quiz 3 Fall 2011 True/False Bubble...

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