MMSS 2111
Problem Set 1
Fall 2007
1. A)
Suppose that the demand for milk increases because a new beauty treatment is
discovered that uses milk.
Use diagrams to analyze the effects of this change on
the equilibrium for milk and the equilibrium for cookies.
B)
Now to convince yourself that your graphical answer is right, consider the
following supply and demand equations for milk and cookies.
Q
d
M
= 40 – 2P
M
– P
C
Q
d
C
= 40 – 2P
C
– P
M
Q
s
M
=
P
M
Q
s
C
=
P
C
i) Solve for the equilibrium prices and quantities.
ii) Now suppose that the demand for milk increases so that the demand for milk is
given by Q
d
M
= 80 – 2P
M
– P
C
.
Solve for the new equilibrium prices and
quantities of milk and cookies.
2.
Suppose you are currently consuming x
1
> 0 units of good X.
A) Is it possible for X to be normal for you at all income levels?
B)
Is it possible for X to be inferior for you at all income levels?
In each case, explain.
3.
Consider and comment on the following:
The price of a good is determined in the market.
As people want more of the good, the
demand for it goes up, and its price tends to rise.
But as the price rises, demand falls.
This decrease in demand lowers the price, and the lowered price again increases demand.
Eventually, supply and demand balance, creating a market price.
4.
Suppose that the demand for good A is given by Q
A
= 500 – 10P
A
+ 2P
B
+ .7I.
P
A
is currently $10, P
B
is currently $5, and I currently is $100.
A. What is the crossprice elasticity of demand for good A with respect to the price of
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 Fall '07
 Shulz
 Supply And Demand

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