Eco 101
Microeconomics


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Assignment ( For May 4, 2006)
The following is the short-run daily production schedule of ABC auto repair shop. The daily fixed cost of this establishment is $120 and its variable input is labor. The daily wage of ABC’s workers is $80. On average ABC receives $40 for each car it services.

Labor  Quantity
0..............0
1..............3
2 .............8
3.............13
4.............17
5.............20
6.............22
7.............23
8.............23
9.............22
10...........21

a. Determine ABC’s MPL, TC, AVC,AFC, TR, and profit for each level of output in the production schedule.
b. At what level of output (or labor) would diminishing (marginal) returns set in?
c. At what level of output is ABC’s profit  maximized?
d. At what level of output is ABC’s total revenue maximized?
e. Now suppose the daily wage of ABC's auto mechanics is raised to $120. How would that affect the ABC’s output and profits? Could ABC still be making a profit?
f. Can you demonstrate your work on a diagram?
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  Tutoring Schedule
   Monday and Wednesday:  12:00 - 1:00 pm    Room 202 Mahar
   Tuesday:                               5:00 - 6:00 pm    Room 108 Mahar
   Thursday:                             1:00 - 2:00 pm
 
 
How to Study Economics
Quizzes:
Quiz-1
Quiz-1B
Quiz-2
Quiz-2B
Quiz 3
Quiz-4
Quiz-5

Study Questions

After you have studied the chapters in the textbook and the relevant lecture notes review the following questions:
What is economics?
What do economists mean by scarcity?
How do we personally and societally deal with the scarcity problem?
What do economists mean by "opportunity costs"?
What is an economic model?
What is a "good" economic model?
Why is abstraction important in making an economic model?
What is a production possibilities curve?
What kind of information does a production possibilities curve reflect?
What are the factors that determine the position and shape of a production possibilities curve?
What makes a production possibilities curve shift?
What is the difference between a curve (concave) and a straight line production possibilities frontier?
How is it decided where along a production possibilities curve an economy will be?
What are the main characteristics of a market economy?
How does the market system coordinates the allocation of resources?
What do economists mean by efficiency?
What is function of price in a market economy?
How is the price determined in a market economy?
Why is it said that price is a rationing instrument in a market economy?
What do economists mean by demand?
What do economist mean by supply?
What is demand curve?
What is the distinction between "demand" and "quantity demanded?"
What makes quantity demanded change?
What makes quantity supplied changed?
What makes the demand (curve) for movies increase?
What makes supply (curve) of music CDs increase?
What makes quantity demanded of music CDs go down?
What is the effect of an crease in the price of gasoline on demand for tires?
What is the effect of an increase in the price of crude oil on the equilibrium price and equilibrium quantity of tires. (Crude oil is used in the production of both tires and gasoline.)
What is(are) the effect(s) of an increase in the price of tomatoes on the market for pizza?
Suppose a 15 percent increase in government subsidies for college students ( in forms of subsidized loans and direct grants) is accompanied by a 10 percent increase in the college tuition. The increased revenues from the tuition hike is used to raise instructors' salaries. Evaluate the effects of these changes on the market for college education.

==============================================================
Exercise questions:

1. Recall that we categorized our economic activities into the following four groups:
production, consumption, saving, and investment
Think about the things that you have done in the past month. Identify ten of you specific actions. Determine in which of the above categories of economic activities each of your actions belongs. Can you think of an action that in no way involves an "economic activity"?

2. The following are prices and quantities of daily demand for gasoline for two service stations. For each station, plot the information on a two-dimensional space with price measured vertically and quantity measured horizontally. (Use the same space for both stations.)
 
Price 
QuntitiyDemanded 
     Stattion A
QunatuityDemanded 
Station B
$1.00
1400 Gallons
2000 Gallons
$1.20
1200
1800
$1.40
1000
1600
$1.60
800
1400
$1.80
600
1200
$2.00
400
1000
$2.20
200
800

What kind of observations can you make about these two service stations?



Additional Exercises

The following is the market demand scheduled for music CDs in the New York City area.
 
 
$Price 
Quantity 
18
0
16
40
14
80
12
120
10
160
8
200
6
240
4
280
2
320

a.  Draw (plot) the demand curve.
b. Calculate the arc elasticity of this demand curve for each of the following price ranges:
     14 and 16,  12 and 14,  10 and 12,  8 and 10,  6 and 8 ,  4 and 6

c.  Can you calculate the point price elasticities at the prices $14 and $6?

d.  Suppose the above schedule was constructed when the average monthly income of New York's consumers was $3000. At this income level music stores were charging $10 for each CD. Now suppose that consumers' income has increased to $3300. If the income elasticity of demand for CD is .5, how many CDs will be sold at this higher income level?

e.  Can you show the effect of the above income increase on the demand curve?
     (Show it on your diagram.)

f.   Can you calculate the price elasticity for the new demand curve at the price rage between 8 and 10? ( or the point price elasticity at the price 10?)

g.  Did the change in income affect the price elasticity? Explain.

h.  Again assuming the price music stores are charging for CDs is $10 and consumers' income is $3,300, suppose the average price of a movie ticket in the New York City area has increased from $10 to $12. If the cross price elasticity of demand for CDs with respect to the price of movie tickets is .625, what is the effect of this price increase on demand for CDs?

i.  Now with the higher income levels and higher movie ticket prices, if the music stores wish to increase their sales (revenues), should they lower or raise their CD prices? Explain. ( Assume presently they are charging $10 for each CD.)

(ANSWERS)


1. What do economists mean by "opportunity costs?" Give an example, preferably, one other than the cost of college education!
2. The expansion of US trade with other countries has resulted in the shrinkage of many of our import competing industries--
    e.g., textile and garment. Should we be concerned? Explain
3. The following table contain information on the price and quantity of a certain good.
 
Price (P)
Quantity (Q)
1
10
1.5
8
2
6
2.5
4
3
2

a. Plot the figures in the table in a two-dimensional space with price measured on the vertical  axis and quantity measured on the horizontal axis.
b. Does the line reflect a positive or negative relationship?
c. What is the slope of the line?
d. What is the price intercept?
e. What is the quantity intercept?



 Supplementary Quiz


Review Questions for Chapters 7-10

Production/Cost Exercises
1. The following is a short-run production table for a firm with labor as its only variable input.
Wage  = $100
Capital  = 45
Capital Price= $15
Product Price= $10
 
Labor
Output
0
0
1
40
2
90
3
140
4
180
5
210
6
230
7
240
8
245
9
240
10
235
a. Determine the following measures at all levels of output:
MPPL, APL,  TFC,  TVC,  TC,  TR,  MRPL ,   AVC,   ATC,  AFC,  MC,  PROFIT
b. At what level of output is the output the profit maximized?
c. What kind of observations can you make about MC, the product price, MRPL , and wage?
2. The table below is a long-run production function (function) showing the output levels for different mixes of capital and labor.
Assuming that the price of labor ( wage ) is $6.00 per hour and the price of capital is $86 per unit, answer the following questions.


a. What is the marginal product of the 6th unit of labor at the capital level of 2?
b.What is the marginal product of the 3rd unit of capital at the labor level of 5?
c. Assuming the the firm is presently producing 168 units of output,
    using two units of capital and seven units of labor, determine if the mix capital and labor used is
    optimal.
d. If the firm wishes to increase its output, should it hire more workers or should it
    buy more capital?
e. Does this production function reflect increasing, decreasing or constant return to scale?

 Answers to the production/cost


Answers to the supply and demand quiz:
      (Quiz 2)
Consider the US market for new sport utility vehicles (SUVs). Determine how each of the following would affect the supply, the demand, the equilibrium price, and the equilibrium quantity in this market, ceteris paribus.
Hint: Think about the most immediate effects.

a. An increase in the price of gasoline:
Demand will .decrease/shift to the left
Supply will .not change............
Equilibrium price will .decrease...............
Equilibrium quantity will .decrease..............

b. Weather forecasters predict a harsh and stormy winter:
Demand will .increase/shift to the right
Supply will .not change............
Equilibrium price will .increase...............
Equilibrium quantity will .increase..............

c. In their negotiations with UAW, automobile manufactures agree to a 10 percent wage increase for all auto workers:
Demand will .not change.............
Supply will .shift to the left.....
Equilibrium price will .increase................
Equilibrium quantity will .decrease..............

d. It is announced that government studies conclude that SUVs are more likely to turn over in the event of an accident:
Demand will .decrease/shift to the left
Supply will .not change............
Equilibrium price will .decrease...............
Equilibrium quantity will .decrease..............

e. To reduce their inventories auto dealerships offer large discounts and special deals on their SUVs:
Demand will .not change.............
Supply will .increase/shift to the right
Equilibrium price will .decrease...............
Equilibrium quantity will .increase...............

f. While the economy is booming and incomes are going up, a new robot technology enables auto manufacturers to significantly reduce labor costs and increase efficiency:
Demand will .increase/shift to the right
Supply will .increase/shift to the right
Equilibrium price will .(may) increase or decrease
Equilibrium quantity will .increase..............



Agraria is a an agricultural country with a given amount of economic resources and given technology that produces only two products: corn and plows.

Its (annual) production possibility schedule (table) for these two products is shown below.
 
Production Choices
  Corn 
(1000 bushels)
Plows (100 sets)
A
1000
0
B
980
1
C
940
2
D
880
3
E
800
4
F
700
5
G
570
6
H
410
7
I
220
8
J
0
9


Read the first three chapters of the text book. These three chapters will be covered as a part of our orientation to economics.

Then, think about the following questions:

Price 
Number of Seats
$300
 35
  280
45
  260
55
  240
70
  220
85
  200
100
  180
120
  160
140
  140
160

Plot this this information on a graph. What price do you think the airliner should charge? Explain.



Review Questions
Note: The following list of questions is by no means exhaustive. Do not limit your studying to these questions. These are only for the purpose of helping you with the review of the topics and concepts that you have already studied and learned.
1. Give a general description of the concept of elasticity.
2. Define the price elasticity of demand.
3. How is the price elasticity of demand calculated?
4. How is arc elasticity calculated?
5. Draw a hypothetical linear demand curve (say, for hair cuts or hair styling). Calculate the arc elasticity of this demand curve at two different price levels. Explain why elasticity changes along a linear demand curve.
6. Use your demand curve in the previous exercise to explain how total revenue (or total expenditure) changes as a result of a price change.
7. What are the factors that affect or determine price elasticity?
8. True of false: The elasticity of an inferior good with respect to income is negative. Explain.
9. True or false: The price elasticity of an inferior good is positive. Explain.
10. True of false: The price elasticity of an upward-sloping supply curve is positive. Explain.
11. How would you rank the following goods according to their price elasticities?
                          Milk, Snow mobiles, Tires, Gasoline
12. Why do we expect the price elasticity to change over time?
13. What is a production function?
14. Why do we expect the marginal physical product of an input to increase first and then at some point start to decline.
15. What do we mean by a short-run production function?
16. Examine and explain the relationship between the average physical product of an input and its marginal physical product.
17. What is marginal revenue product?
18. What is the effect of an increase in the price of a product on the marginal revenue product.
19. Carefully draw and compare total product, average physical product and marginal product.
20. What is the effect of an increase in the productivity of labor on marginal revenue product?
21. What do we mean by “the optimal” level of an input?
22. Explain the components of production costs in the short run.
23. What does a straight-line total cost function indicate?
24. What is (short-run) marginal cost?
25. Does an increase in wage affect the short-run marginal cost (assuming labor is our variable input)? Explain.
26. Does an increase in wage affect the short-run average total cost (assuming labor is our variable input)? Explain.
27. What is the optimization rule for a multiple-input production function?
28. With reference to the input optimization rule, explain the reaction of a profit-maximizing firm to changes in input prices.
29. How do we determine a firm’s revenue?
30. Can a firm always increase its by charging higher prices? Explain.
31. What do we mean by economic profit?
32. Should a profit maximizing firm shut down if its economic profit is 0? Explain.
33. Draw total cost and total revenue functions in a diagram and demonstrate how a firms profit is determined. (Do this exercise using both horizontal and downward-sloping demand curves)
34. Draw a diagram showing short-run marginal cost, average variable cost, and total cost. Use a hypothetical price to demonstrate the short-run equilibrium output. Also, show how the firm determines its profit on your diagram.
35. What is the short-run profit maximizing rule for a profit maximizing firm?
36. True or False: If a firm produces at a level where its marginal cost is greater than its marginal revenue the firm will show an economic loss. Explain.
37.  True or False: If a firm produces at a level where its marginal cost is less than its marginal revenue the firm will show an economic loss. Explain.
38. True or False: When a firms profit is maximized (in the short-run) its marginal cost is equal to its marginal revenue and at the same time its marginal revenue product  is greater then the price of its variable input. Explain.
39. Use a diagram to show how the long-run average total cost of a firm is derived.
40. True or False: An increase in the price of the fixed input does not effect a firms profit in the short-run. Explain.
41. What are the characteristics of a perfectly competitive market?
42. Explain why it is said that the long-run equilibrium profit of a competitive firm is 0.
43. What is the effect of an increase in demand on the profit of a firm under competitive conditions in the short run?
44. What do we mean by a short-run shutdown price?
45. What is the effect of new entries into a competitive market on individual firm’s profits?
46. True or False: An individual firm’s short-run supply curve is always upward sloping. Explain.
47. True or False: The short-run industry’s supply curve is always horizontal. Explain.
48.  Explain the impact of an increase in long-run average cost on the shape of  an industry’s long run supply curve.
49. Explain the conditions under which an industry’s long run supply curve would be horizontal.
50. Is it possible for the industry’s long run supply curve to be negatively sloped? Explain.
51. What is an isocost?
52. What is the optimizing rule that a profit maximizing firm must follow in the long run?
53. What does the slope of an isocost measure (reflect)?
54. What is the effect of an increase in an input price on the isocost?
55. True or False: In the long run, to maximize its profit, a firm must produce at the output level where its long-run average cost is minimized.
56. True or False: In the long run, to maximize its profit, a firm must produce at the output level where its total revenue is maximized.
57. True or False: In the long run, to maximize its profit, a firm must produce at the output level where its marginal revenue is equal to zero.


Answers to the production/cost questions:
Question 1
a.
labor output MPPL APL TFC TVC TC    TR  MRP AVC ATC AFC  MC  PROF
0        0                           675           675                                                         -675
1       40      40       40     675 100   775  400   400    2.5   19.38 16.88  2.5  -375
2       90      50       45     675   200  875  900   500    2.22  9.722  7.5     2       25
3     140     50       46.67 675   300  975  1400 500    2.14  6.964  4.82   2      425
4     180     40       45      675   400 1075 1800 400   2.22   5.972  3.75  2.5    725
5     210     30       42      675  500  1175  2100 300  2.38  5.595  3.214 3.33  925
6     230     20      38.33  675  600  1275  2300 200  2.61  5.543  2.935  5     1025
7     240    10       34.29  675  700  1375  2400 100  2.92  5.729  2.813  10   1025
8     245     5        30.63  675  800  1475  2450 50    3.27  6.02   2.755   20    975
9     240    -5       26.67  675  900  1575  2400 -50   3.75  6.563  2.813 -20    825
10   235    -5        23.5  675  1000 1675  2350 -50   4.26  7.128  2.872 -20    675

b. 240
c. Note the high-lighted figures.

Question 2
a. 5
b. 50
c. Yes; MPPL/Wage  = MPPK/ Price of capital;   3/6  = 43/86
d. Capital;  2/6  <  32/86
e. 25,100, 180, 240;  Increasing up to the output level 180 (using 3 units of labor and 3 units of capital) but decreasing after that.


Supplementary Quiz

1. A firm facing a horizontal demand curve

a. cannot affect the price it receives for its output.
b. always produces at an output at which P = MR.
c. faces perfectly elastic demand for its product.
d. All of the answers above are correct.

2. In the short run, perfectly competitive firms can

a. make an economic profit.
b. take a loss.
c. break even.
d. All of the above are correct.

3. The short-run supply curve of the competitive industry

a. is found by summing the AC curves of the individual firms in the industry.
b. is found by summing the AVC curves of the individual firms in the industry.
c. is found by summing the MC curves above AVC of the individual firms in the industry.
d. There is no short-run supply curve in a competitive industry.

4. A perfectly competitive firm would be willing to remain in the industry in the long run at zero      economic profit because

a. it would find it too difficult to exit from the industry in the long run.
b. accounting profit would be negative.
c. revenue is equal to all costs, including the opportunity cost of capital and labor.
d. its sunk costs would prevent it from leaving the industry.

5. In long-run equilibrium under perfect competition,

a. the firm and the industry will have the same cost curves.
b. only a very few firms will be earning economic profits.
c. the demand curves facing individual firms will fall to the level of minimum AC.
d. individual firms will tend to increase their outputs.

6. An efficient allocation of resources exists if

a. one group of people can get more of the things they want without someone else having to give up     anything.
b. no one can get more of the things he wants without someone else having to give up something.
c. the economy operates at any point under the production possibilities frontier.
d. the economy is operating at any point above the production possibilities frontier.

7. In a free market, economic activity is coordinated by

a. central planners.
b. prices.
c. costs.
d. majority rule.

8. Efficiency in the distribution of output among consumers requires that all consumers of a good

a. have the same marginal utility from the good.
b. maximize their marginal utility from the good.
c. receive the same amount of the good.
d. have the same total utility from the good.

9. If the marginal utility of a product exceeds its MC, we would want, on efficiency grounds,

a. to increase production.
b. to decrease production.
c. to leave production constant.
d. One cannot tell without knowing the price.

10. If MU = MC = P, an economist can judge with certainty that the distribution of output is

a. fair.
b. equal.
c. unbiased.
d. efficient.

11. A natural monopoly is defined as an industry in which

a. one firm can produce the entire industry output at a lower average cost than a larger number of      firms could.
b. one firm can produce the entire industry output at a lower marginal cost than a larger number of      firms could.
c. one firm is very large relative to other firms that could enter the industry.
d. one firm can earn higher profits if it is the only firm in the industry rather than if other firms also      enter the industry.

12. In order for a natural monopoly to develop,

a. it is important that the firm be a very large firm.
b. it is important that the firm prices its product below cost.
c. it is not the absolute size of the firm but its size relative to the total market demand that is      important.
d. it must be in the presence of government intervention.

13. A profit-maximizing monopolist sets

a. her product's price where MC = MR.
b. her output where MC = MR.
c. Both a and b are correct.
d. Neither a nor b is correct.

14. In the long run under monopoly,

a. the MC curve will lie to the left of the output at which AC and AR meet.
b. MC = MR = P.
c. MC = MR = AR.
d. the MC curve will lie to the right of the output at which AC and AR meet.

15. Monopolistic competitors and perfect competitors are alike in

a. having horizontal demand curves.
b. zero economic profit in the short run.
c. zero economic profit in the long run.
d. relying on advertising to attract buyers to their products.

16. A monopolistically competitive firm in the long run will

a. have a demand curve tangent to its AC.
b. have a demand curve below its AC.
c. have a demand curve above its AC.
d. operate where excessive profit can be achieved.

17. Oligopoly occurs when

a. a few firms sell many different products.
b. a few firms sell to a few large buyers.
c. many firms dominate a single market.
d. a few firms dominate a single market.

18. One indication that an industry might be oligopolistic is that

a. prices change infrequently.
b. prices change frequently.
c. prices change in rhythmic patterns.
d. prices change on a regular, periodic basis.

19. A cartel is

a. a group of oligopolists who try to behave like a single monopolist and split the benefits among      themselves.
b. a government-approved organization for the exchange of technical information among firms.
c. a form of competition among oligopolists.
d. a regulated industry that is officially permitted to set the price of its product above long-run      average total cost.

20. In the cigarette industry either R. J. Reynolds or Phillip Morris, for a time, raised prices twice        a year by about 50 cents per carton. The other firms in the industry raised their prices by the same       amount. Economists call this

a. predatory pricing.
b. a price war.
c. price leadership.
d. sales maximization.

21. According to the kinked demand curve model, an oligopolist may face

a. more elastic demand than a monopolistic competitor.
b. less elastic demand than a monopolistic competitor.
c. more elastic demand if she raises her price than if she lowers her price.
d. less elastic demand if she raises her price than if she lowers her price.

22. A market which firms can enter if they choose and exit without losing money invested is

a. pure monopoly.
b. duopoly.
c. contestable.
d. a market where there are kinked demand curves.

23. Deviations from the perfectly competitive market can lead to

a. inefficiently high production costs.
b. higher prices and smaller outputs.
c. less efficient resource allocation.
d. all of the above.

24. All four market forms discussed in the text maximize profit where

a. P = MC.
b. AR = AC.
c. MR = MC.
d. MC = AR.

25. It is efficient to increase the output of computers if

a. society considers the additional computers more valuable than other goods forgone to produce the      computers.
b. the opportunity cost of more computers is greater than their marginal utility.
c. computer production can be increased only if production of other goods is decreased.
d. the price of the computers is equal to their average cost.

26. An externality is an event which

a. is external to economics.
b. always brings harm to someone in the economy.
c. is incidental to some market activity.
d. harms the economy as a whole rather than a particular person.

27. A firm is generating detrimental externalities when

a. MSC is less than MPC.
b. MSC is the same as MPC.
c. MSC is greater than MPC.
d. MPC includes some incidental costs.

28. The classic example of a detrimental externality is

a. education.
b. pollution.
c. discovery of an AIDS vaccine.
d. Mrs. Lewis' prize-winning rose garden.

29. An example of a beneficial externality is

a. airport noise.
b. a blooming curbside bed of violets.
c. pollution of a fishing lake.
d. freeway congestion.
 

30. In a free market where a firm's activity causes detrimental externalities,

a. marginal benefits will be less than marginal social costs.
b. smaller outputs than those that maximize profits will be socially desirable.
c. marginal social cost will be greater than marginal private cost.
d. All of the answers above are correct.

31. The "free rider" problem occurs when a good is

a. not available.
b. not excludable.
c. not depletable.
d. not sold in free markets.

32. A public good is

a. always depletable and excludable.
b. always depletable and often excludable.
c. never depletable and always excludable.
d. never depletable and often nonexcludable.

33. Without government intervention, public goods would

a. be much less expensive.
b. not be provided.
c. be produced in much larger quantity.
d. be priced within the income ability of all individuals to purchase them.

34. A process through which a firm seeks to obtain earnings without contributing to production, thus       wasting valuable resources, is known as

a. moral hazard.
b. rent seeking.
c. detrimental externality.
d. a defective telescopic faculty.



Answers to the Elasticity Problem
a) (Graph)
b) The (arc) elasticity between prices 14 and 16:      -5
    The (arc) elasticity between prices 12 and 14:      -2.6
    The (arc) elasticity between prices 10 and 12:      -1.57
    The (arc) elasticity between prices   8 and 10:      -1
    The (arc) elasticity between prices   6 and   8:      -.63
    The (arc) elasticity between prices   4 and   6:      -.36
c) Point elasticity at P=14:    -3.5
    Point elasticity at P= 6:     -.5
d) With the new income: $3,300 at P=10:  The number of CDs sold = 168

e) The demand curve would shift to the right.

f) The new arc elasticity = -.957
   (The new point elasticity:  -1.19)

g) It lowered the price elasticity.

h) The level of demand for CDs would increase by 12.5 percent ( to 189 CDs.)

i) If the (absolute value of the) new price elasticity is smaller than one (which it is), they should raise the price.


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