Newmark Econ 505 - Exam #1 Flashcards

Terms Definitions
4 Properties of Indifference Curves
1) Slope Down (negative slope)2) Fill the entire quadrant (can be ranked)3)Cannot cross **4) Usually convex to origin. Definately convex for goods.
2 Forces that determine choice
1) Preferences / Tastes (before money enters)2) Opportunities (Prices/Income) Focus on change in opportunities.
3 Arguments for a Rationality Assumption
1) Does not show how anyone thinks2) Do not assume 100% are rational 100% of the time3) Animals are rational by our definition
Individual Rationality
People respond to incentives; neither to lazy nor to stupid to respond
Opportunity Cost
The cost of doing something is the net value of the next best alternative foregone.May be 0 cash outlay but still a costIn a world of scarcity, you have better use of timeNothing really free. Money not at heart of concept.
Voluntary Trade
1) Mutually beneficial given an initial distribution of rights and resources2) Trade tends to make resources go to their most highly valued uses and to their most highly valuing users.
Market Demand
The relation b/w the price of a particular good and the quantity of the good consumers are willing to buy at that price - during a specific time period, other things equal
First Law of Demand
Holding other things constant, quantity demanded is negatively related to price.Easier said as DEMAND CURVE SLOPES DOWN
What is the one and only one thing that moves us along the demand curve?
Name the 7 demand curve shifters
1) Income2) Prices of Substitutes3) Prices of Complements4) Perceived Quality5) Expected Future Price6) Market Size / Population7) Taxes per unit
General Determinants of Price Elasticity
1) The # and/or quality of the products substitutes (tends to make demand curve elasatic)2) Income Elasticity - %change in demand/%change in income (how will demand respond to changes in income - ex: food-less responsive)3)Time - longer time period-more elasticshorter time - more inelastic
“Group Thinker”Focus groups are full of people who tell advertisers what they want to hear just to get paid
“Introduction and Overview from Modern Competitive Analysis”Strategic Planning- Strong in 1970’s, failures led to decrease in planning boards, resent revival with some reservations- “While there are no generally successful strategies, some general principles to strategic planning can improve performance”
Bertrand and Mullainathan
“Do People Mean What They Say?”- Order of questions affects answers- Simple changes in wording greatly affects answers- Scale affects numerical answers- Respondents prioritize by the order of the list given or in reverse order- People lie to say what they believe the interviewer wants to hear- People have difficulty articulating their attitudes- Statistically errors in attitudes are high
“Outsourcing Boogeyman”Open economy leads to concentrated costs short term & diffuse benefits in the long run. Outsourcing is counter balanced by job creation in service sectorProtectionism is harmful
“Truth About Middle Class Jobs”Middle class jobs are not disappearing Outsourcing hurts less educated men the most
“How Many Jobs are Onshorable?Re-interprets Alan Blinder’s claim that 30-40mi jobs will be outsourced Lots more service jobs “offshored” and lots more “onshored”Gov’t should help service exporters compete
“World Sock Capital”Former sock mill town put more $ into education & training. Former sock mill workers are better off now than bf
Stacey & Morris
“How Not to Solve a Crisis” 4 factors towards crisis: regulatory arbitrageFreddie&Fannie, Fed deposit insurance/guarantees, credit rating agencies Need competition to drive innovation rather than regulationFree markets need creative destruction
“What do we now about the Stock Market?”Avgas person should hold stocks/bonds long term. Need to consider each individual situation.
“The Chess Game of Financial Regulation”Funding crisis3 solutions: securitization, risk based capital, market value accounting.Should promote saving
“Saving Capitalists from Capitalists” Biggest enemies to free market are big, successful companies interested in restricting competition. Ppl need access to good working capital Vertically integrated companies are starting to disappear. Companies are starting to specialize
“On System Acceptance”Bottom-level mgt is essential for system acceptance. Most ppl want to do their job well, find a way to make ppl’s job easier
“Entrepreneurship: Productive, Unproductive, & Destructive”How ppl live differently in the worldIn some places rules of the game promote economic growth. Factors: values, social, legal, cultural, political
“Intro to Modern Econ Growth”Econ growth is relative new, 200yrsRicher countries are substantially richer than poorerHigh income = high education, technologyIncentive structure and institutions matterStrong property rights create econ growth -N/S Korea ex
6 key factors that caused the Financial Crisis
1. Zoning and other local land-use laws2. Low interest rates from mid-2001 to mid-20053. Federal housing policy4. Regulatory arbitrage5. Distorted incentives of the rating agencies6. Market to market accounting
six reasons for financial crisis
 low interest rates  due to public policy (disputed to have a cause) other cause “Savings glut”: Good economic growth world wide + aging population, personal and government savings increase Zoning and land use laws CA has heavy land use laws drove up land prices, also in FL, AZ, NV. Failures in CA 2/3rds of the problem Housing policy Largely federal (Fannie Mae and Freddie Mac) Incentive to lend Reduces risk to banks 1992 insists on mortgagee lend to lower income groups law in 1977 urged banks to lend more aggressively, feds restricted ability to expand with compliance. 2004 Audit found money missing in Fannie Mae, leaders in trouble, congress told them increase low income loans again. Regulator Arbitrage  Banks, Insurance and other financial institution are highly leveraged For each $12 loaned, $1 in reserve. Capital required to hold based on the overall risk of loans, higher money in reserve. So banks held risky loans but made them to appear safe. Off balance sheets Rating Agencies S&P, Moody’s and a third small company rate businesses loan risk Accounting companies held in high esteem because of reputation. 85% of mortgage securities rated AAA 1985 gov passed regulation to disallow anyone else from entering the rate agency business. Created a monopoly in the rating business and they start to sell the ratings (bribes). Ratings artificially inflated. Market to Market accounting Assets stops trading revalued to $0. Should have waited to for panic to pass.
1. When the stock market falls, analysts invariably report a “wave of selling.” Yet all the stocks that are sold must be purchased by someone else. Why don’t the analysts report a “wave of buying”? What is really going on?
The supply and demand for a stock are initially in equilibrium at P* and Q*. A “wave of selling” can be interpreted as an increase in supply. At P*, therefore, quantity supplied becomes greater than quantity demanded. Market price falls to a new equilibrium. At the new equilibrium, the number of shares sold is equal to the number of shares purchased.
2. Suppose the market for soybeans in North Carolina was in equilibrium during May, 2008. The price was $$.17/pound and the quantity sold was 200,000 pounds. Now suppose that during April, 2009, we observe the price to be $.20/pound and the quantity sold
The problem states that P rose and Q fell. For each of the events A through E, determine what curves have shifted and in what directions, and then check to see whether P rose and Q fell. If they didn’t, that event couldn’t have caused the results in the soybean market. A increases the supply curve. P would fall and Q would rise. Not a cause. B decreases demand. P would fall and Q would fall. Not a cause. C also decreases demand. Same answer as for B. D either increases or decreases demand. Either both P and Q rise or both P and Q fall. Not a cause. E increases supply. Same answer as for A. Therefore, “G” is the correct answer.
3. Inkjet printers have become more efficient, so they can print more pages with just one ink cartridge. True or false: the consumption of ink cartridges will therefore decrease. Explain.
False (not necessarily). Cartridge consumption = cartridge consumption per page times the number of pages. The first term decreases, but the second term increases because of the Law of Demand. The net effect is therefore uncertain.
4. In North Carolina it is illegal to resell tickets for more than $3 above their printed “face” value. From “Scalping 101,” by Matthew Eisley, Raleigh News & Observer, 6/7/06:“Police and RBC Center officials say scalping is not a victimless cr
The shortage is caused by the anti-scalping law, not the scalpers, and the scalpers don’t “create a scarcity”. With the law in place the price would be bid up toward equilibrium anyway, even without the scalpers.
5. What are the predictable effects of an attempt by government to keep a price—any price—from rising to the equilibrium level determined by the intersection of market demand and market supply?
1. Non-price rationing occurs 2. Quality decreases 3. Political control expands 4. Distribution effects are questionable
6. For “Other Person’s Income” and “My Income” regarded as goods, what shape—and what slope—would your indifference curves have if you practiced the Golden Rule: “Love thy neighbor as thyself”? Explain carefully.
Your indifferences curves would be straight lines and they each would have slope equal to –1.
7. Define what economists mean by scarcity. What is one important implication of scarcity?
The total amount of goods and services a group of people would want at zero prices far exceeds the amounts that group of people can actually supply. One implication is that any group of people must decide on an allocation mechanism. Another implication is that almost action has an opportunity cost.
8. Since the 1974 U. S. Supreme Court ruling (Roe v. Wade) liberalizing abortion laws, the number of children adopted in the U.S. has fallen considerably. Also, the price adopting parents pay for a healthy native-born infant is now around $25,000, up fro
Many people have been surprised at the readiness of U.S. families recently to adopt babies of different races, in particular Vietnamese refuge children. These children, as well as some other types—non-infant children, children with mental or physical handicaps—were formerly considered “unadoptable”: few adoptive parents wanted them. Have the attitudes of adoptive parents changed recently or might there be another reason for recent behavior? We can model the market for “adoptable, healthy, native-born infants” using a simple supply and demand diagram. Roe v. Wade decreased the supply of such infants, raising the price. There are now two markets to consider: one for “adoptable” babies and one for the previously “unadoptable” babies. The rise in price in the first market affects the second market because the two goods are substitutes. The price rise raises the demand for “unadoptable” babies, causing the quantity to rise. No taste change need be involved.
9. People in the Pacific Northwest consume more water per person than people in the Southwest, even though the Southwest is hotter. Does this mean that Northwesterners like water more, or are on average thirstier than Southwesterners? Explain.
Not necessarily. The two regions could have the same demand curve, but the supply of water is greater in the Pacific Northwest, resulting in lower prices and greater quantity consumed.
10. Having successfully sued various cigarette manufacturers, many states are taking aim at handgun manufacturers. The states hope to make gun manufacturers liable for the damages caused by handguns. The handgun manufacturers maintain that the case agains
A. No. The economic burden of the fee depends on the elasticities of gun supply and demand.B. They will go up. A $50 fee that applies to all guns makes the higher “quality’ guns relatively cheaper (shipping the good apples out). One aspect of quality is deadliness.C. Handguns have few good substitutes, so demand at current prices is probably quite inelastic (-.1 or -.2, say). The fee will therefore increase the amount of money spent on handguns.So the fee will be paid in part by gun users, will tend to make guns deadlier, and will increase the amount of money spent on handguns. These effects may not be anticipated by those who want to tax guns.
11. Consider a consumer with an income of $13,500. The slope of her indifference curves between goods X and Y is given by the equation, slope = . X and Y are the only goods available. The price of X is $200 per unit and the price of Y is $300 per unit
At the consumer’s optimum, the budget line is tangent to an indifference curve. This condition gives us on equation: the slope of the indifference curve, -Y/2X, equals the slope of the budget line, -Px/Py, -200/300. The other equation we need is simply the budget line: 200X + 300Y = 13,500. Solve two equations in two unknowns. We get X* = 22.5 and Y* = 30.
12. Karen runs a jewelry business, distributing faux—fake—pearls over the Web. Last month she charged $50 for a string of her fake pearls. Anxious for more revenue, she hired Lynda and John to do a statistical study of the price elasticity of demand.
Karen remembered that if demand is inelastic, price and total revenue change in the same direction. Since –0.75 is in the inelastic range she thought per price increase would increase total revenue. But she raised her price by 400%. For big changes in price, the rules given in class about price and total revenue don’t have to hold.
13. A “consumer advocate” magazine argues that it silly for a consumer to pay $4 for a boneless chicken breast when a bone-in chicken breast takes only 6 minutes to debone and costs only $1. True or false: no consumer should buy boneless chicken breas
False. Time spent deboning the chicken has an opportunity cost. If the consumer’s time is worth more than $30/hour ($3 for 6 minutes), he or she should buy the boneless chicken breast.
14. Why are the good apples shipped out? Explain. Can you explain another observation using the same principle? Explain.
A fixed transportation cost per unit makes the higher quality, more expensive apples relatively cheaper at distant locations, so quantity demanded is higher at these locations and firms accommodate that demand. This explains why the French consume a portion of their wine in cans. This explains why people traveling from long distances bought the best Clemson football seats (even holding income constant).
15. True or false: if the prison sentences for all crimes were doubled, this would worsen the problem of overcrowded prisons. Using economics only, explain.
False. Holding the flow of prisoners constant, doubling the sentences would increase the need for space. But doubling the sentences raises the price of crime and will decrease—if only a little, perhaps—the number of crimes committed. The two effects are in opposite directions, so the net effect is uncertain.
16. Why does a light come on when you open the refrigerator door but one doesn’t when you open the freezer?
The refrigerator door is opened much more. The willingness to pay of customers for a refrigerator light is, therefore, more likely to exceed the marginal cost than it would for a less-used freezer light. Note that freezers sold primarily to higher-income customers—the Sub-Zero brand, for instance—often do come with a light, presumably because of the higher willingness to pay of those customers.
17. The market for yachts is in equilibrium at a quantity of 500 per year. All 500 are bought by private citizens. Suppose the U.S. government announces that henceforth it will buy 150 yachts per year (at any price for which private demand is positive). N
Draw a demand curve. Identify the point with 500 as an X-axis coordinate. What does the government’s action do? It shifts the demand curve parallel, to the right, by 150 units. Where will the new equilibrium be? Clearly, that depends on what the supply curve looks like. Consider two extreme cases: Suppose the supply curve is perfectly inelastic (completely vertical). Then the new equilibrium will still equal 500 units, total. The government gets its 150, so the number bought by private citizens must be 500 – 150 = 350. Consider the other extreme: the supply curve is perfectly elastic (completely flat). Then the new equilibrium will equal 650 units, total. The government gets 150, leaving 500 for private buyers. So the number bought by private citizens will be from 350 to 500, depending on the elasticity of the supply curve.
18. Suppose a consumer has a policy of buying only the highest-priced brand of a product. True or false: this would contradict the Law of Demand. Explain.
False. Presumably the customer is willing to pay a higher price for a brand because he or she thinks it is higher quality. Nothing we say prohibits consumers from wanting higher quality products and for being willing to pay higher prices for those higher quality products. And note, too, that quality is being held constant when we use the Law of Demand.
19. Several years ago the wages of coffee workers rose sharply, so the world price of coffee also rose sharply. Customers reacted by purchasing coffee makers that brewed coffee with less waste, by switching to tea and hot chocolate, etc. An analyst conclu
Disagree. Supply of coffee has decreased, raising the price. The substitutions are exactly what we would expect in reaction to the higher price, but they are substitutions moving along a given demand curve, not a shift of the demand curve.
20. According to a recent story in USA Today, “The tech bust is hurting the popularity of computer majors in U.S. colleges, and that could eventually cause worker shortages in a highly competitive global industry.” What do you think? Answer using only
Disagree. Fewer major implies a decrease in supply of workers, and the wage rate will rise. But at the higher wage equilibrium wage rate, firms will be able to hire as many workers as they are willing to pay for. There won’t be a “shortage”.
21. Regarding a consumer’s demand for a good, explain what the jargon phrase “substitution effect” means. What economically interesting thing might occur if for a particular good the income effect is larger in absolute value than the substitution ef
The “substitution effect” is the change in the quantity demanded induced by a price change of the good, holding the consumer to his or her initial indifference curve. The good might have an upward-sloping demand curve (“Giffen good”). It’s unlikely because in addition to having a large income effect the good must also be inferior.
22. Suppose that the supply curve for apples in the little town of Newmarkville is perfectly horizontal. The price elasticity of demand for apples at the price for which supply is horizontal is -2.3. The government of Newmarkville decides that taxing appl
The percentage change in Q = the price elasticity of demand times the percentage change in P. We’re given the price elasticity of demand = -2.3. Since the supply curve is perfectly elastic, a 1 cent tax on apples will raise the price to buyers by exactly 1 cent. 1 cent divided by the initial price of 20 cents means the percentage change in price is 5%. -2.3 times 5 equals -11.5 percent.
23. “According to the First Law of Demand, the lower the price of vacations is, the more vacations I will take. Yet I take only one vacation a year no matter what the price is. Obviously this ‘law of demand’ is wrong.” Is it? Why not?
No. For the Law of Demand, expensive goods are better considered as a bundle of services. So even though the speaker may take only one vacation, if the prices of “vacations” decline, the speaker will consumer more vacation services. (He or she will visit more cities, stay at higher quality hotels, eat at higher quality restaurants, visit more attractions, etc.)
24. Excerpt from an e-mail circulating widely: “It has been calculated that if everyone in the United States and Canada did not purchase a drop of gasoline for one day and all at the same time, the oil companies would choke on their stockpiles. We can m
Demand drops during the one day but presumably goes back to the original level when the boycott ends (or probably higher as consumers made deferred purchases). There’s no permanent change in price and little or no effect on the sellers’ profitability.
Comparative Advantage
1) The ability to perform a given task at a lower cost2) Do what you do best (comparatively), trade for the rest.3)Helps to explain middlemen - they provide functions at which they have a lower cost.
Elastic & Inelastic Ranges
ELASTIC -Infinity - -1 but not equal to -1 (change in price results in bigger change in quantity demanded)INELASTIC -1 - 0 but not including 0 or -1 (change in price results in a smaller %change in quantity demanded than %change in price)UNIT ELASTIC -1 (%change in price=%change in quantity)
Explain effect of Income on Demand Curve
Do not assume a direction
Explain effect of Price of Substitutes on Demand Curve
Price of Sub increases, demand of focus good increases, vice versa
Explain effect of Price of Complements on Demand Curve
Price of complements up, demand of focused good down
Explain effect of Perceived Quality on Demand Curve
Perceived Quality increases, demand increases
Explain effect of Expected Future Price on Demand Curve
Expected Future Price increases, demand increases
Explain effect of Market Size/Population on Demand Curve
More people, more demand general rule
Explain effect of PER UNIT Taxes on Demand Curve
Taxes up, demand down
Price Elasticity
- Addresses Price Sensitivity- % Change in Quantity demanded/%Change in Price-General Form - ratio of % changes. All have general format to get at sensitivity: whatever responding/thing changing
The total amount of goods and services a group of people would want at zero prices far exceeds the amounts that group of people can actually supply.One implication is that any group of people must decide on an allocation mechanism. Another, almost any action has an opportunity cost.
Intersection of Demand & Supply Curve (unique).
Name 5 Factos that shift the Supply Curve and how their effect on the shift
1) Input/Factor Prices - Input Up, Supply Down2) Change in the price of another product the seller makes: Price of other good up, supply down3) Technology (incl. weather): Technology up, Supply up4) Expected Future Price: Expected Future Price Up, Supply Down5)Per Unit Tax (PARALLEL!) - Tax Up, Supply Down
Economic Effects of per unit taxes
1) Parallel! Can shift either curve but only one2) Sales Tax - Burden on demandersExcise Tax - Burden on suppliers3) Economic effect is independent of who bears the legal burden
1) The relation b/w the price of a particular good and the quantity of the good firms or individuals are willing to sell at that price during a particular time period, other things equal2) Generally upward sloping, not ironclad.
Absolute Price
The # of dollars thatn can be exchanged for a specified quantity of a given good
Relative Price
The quantity of some other good that can be exchanged for a specified quantity of a given good.
Marginal value of X in terms of Y
The number of Ys for which the consumer would be willing to trade just one X
Composite-good Convention
The lumping together of all goods but one into a single portmanteau good. (When we lump together all things that are not eggs and measure it in a single unit like dollars, we say that we are using the composite-good function)
Laspeyres price index
A price index based on the basket consumed in the earlier period
Paasche Price Index
A price index based on the basket consumed in the later period.
Normal Good
A good that you consume more of when your income rises.
Inferior Good
A good that you consume less of when your income rises
Giffen Good
A good that violates the law of demand, so that when the price goes up, the quantity demanded goes up. Geometrically possible but extremely rare (no examples)
Substitution Effect of a price change
A change in consumption due to the fact that you won't buy goods whose marginal value is below the new price.
Income effect of a price change
A Change in consumption due to the fact that you can no longer afford your original basket and are therefore effectively poorer.
Intertemporal Substitution
Working additional hours during temporary periods of high productivity
Compensating Differential
A wage adjustment that comes about in equilibrium to compensate for a particularly pleasant or unpleasant aspect of a job.
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