Review Basic Concepts - Answers

Good X Good Y

10 0

8 4

6 8

4 12

2 16

Use the information in the previous table to determine the answers to the following questions.

1. What is the opportunity cost of increasing the production of Good Y from 4 to 8?

Ø 2 units of Good X (8 – 6 = 2).

2. What condition could explain the production of 8 units of X and 10 units of Y?

Ø A technological improvement in the production of Good Y only.

Use the information in the previous graph to answer the following questions.

3. What could have caused the shift from PPC BB' to BC'?

Ø A technological advancement in the production of consumer goods.

4. What could have caused the shift from PPC BB' to AA'?

Ø A natural disaster or a plague. Something that reduces the quantity or quality of our resources.

5. Does curve CC' represent a constant cost, increasing cost, or decreasing cost curve?

Ø It represents and increasing cost curve. To have more of a good, you must give up more of another good.

6. What could cause the economy to operate at point X?

Ø If we are underemploying our resources. Our workers may be lazy and not working up to their potential.

Use the information in the previous graph to answer the following questions.

7. What are the equilibrium price and quantity?

Ø Price = X and Quantity = S

8. What is a consumers' surplus? (Define)

Ø The area under the demand curve above the equilibrium price. It represents the difference between what a consumer is willing to pay and what they actually pay.

9. Highlight the area that represents the consumers' surplus.

10. If a price floor is set at W, how will quantity demanded change? (use specific letters)

Ø Quantity demanded will decrease from S to R.

11. What will happen to the size of the consumers’ surplus after the price floor is set?

Ø The consumer surplus will shrink.

12. What kind of condition does the price floor create in the market?

Ø The price floor creates a surplus because quantity supplied > quantity demanded.

13. Suppose that a family buys all of its clothing from a discount store and treats these items as inferior goods. Under such circumstances, this family's

consumption of discount store clothing will necessarily…

a. increase when a family member wins the state lottery.

b. increase when a family member gets a raise in pay at work.

c. remain unchanged when its income rises or falls due to events beyond the family's control.

d. decrease when a family member becomes unemployed.

e. decrease when a family member experiences an increase in income (because as income increases, demand decreases for inferior goods).

14. Suppose the breakfast bar increased the price of Snapple, which of the following would happen?

a. The demand for Snapple would decrease.

b. The demand for donuts (complimentary goods) would increase.

c. The supply of water (used in the production of Snapple) would increase.

d. The quantity demanded of Snapple would decrease (because a price change is shown by a movement along the curve).

e. The quantity supplied of Snapple would decrease.

15. Researchers discover that beets (the red vegetable) are a cure for the common cold, as a result we can reasonably expect…

I. the price of beats to fall

II. the quantity of beets purchased to increase

III. an increase in the demand for beats

a. I only e. I and III only

b. II only f. II and III only (because the demand for beats will increase)

c. III only g. I, II and III

d. I and II only h. none of the above

16. Assume that consumers are equally willing to eat apples and oranges. What will happen in the market for apples when…

* the government places a 10% tax on all apple sales,

* and the price of oranges falls by 5%.

a) Draw a single graph that illustrates the impact of the events described above on

the market for apples (label completely).

b) Explain why these changes have taken place (make sure to use specific terms).

c) After all of the changes have taken place, what happens to price and quantity?

The tax causes the supply of apples to decrease (shift to the left) since the cost of producing them has gone up.

As the price of oranges falls, people will substitute oranges for apples causing the demand for apples to decrease (shift to the left).

Since both supply and demand are decreasing, we know that quantity has decreased. The effect on price is based on the size of the shifts. Since supply shifted by a larger amount (10%), price will actually increase.

17. The quantity demanded of a good rises from 300 to 500 units when the price falls from $30 to $10 per unit. The price elasticity of demand coefficient for this product is…

Ø Ed = % ∆ QD / % ∆ P = [(300-500)/((300+500)/2)] / [(30-10)/((30+10)/2)] = [(-200/400) / (20/20)] = - ½ = ½.

18. Given that number, is demand for the product price elastic, inelastic, or unit elastic?

Ø Price inelastic since ed < 1.

19. Provide an example of a good with such an elasticity.

Ø Bread … any necessity.

Use the information on the previous graph to answer the following questions.

20. What is true of the price elasticity of demand at the price of $.75?

Ø Demand is price elastic since MR > 0.

21. What will happen on the graph if consumer incomes rise?

Ø If we are dealing with a normal good, demand will increase.

22. What would happen to the revenue earned from Candy Bar sales if the price of Candy bars increases to $1.00?

Ø Total revenue would decrease since demand is elastic. The % change in quantity demanded would decrease by a larger amount than the increase in price.

23. The demand for pizza from Pizza Hut would be…

a. price elastic because the price is a small % of income

b. price elastic because consumers can choose amongst many pizza varieties

c. price inelastic because Pizza Hut pizza has many substitutes

d. price inelastic because Pizza Hut is a superior / normal good

e. unit price elastic because Pizza Hut consumers are loyal to their product, and are not influenced by price changes.

24. What is the short run?

Ø A period of time in which producers have the ability to alter the quantities of some of the resources they hire.

25. What is the long run?

Ø A period of time in which producers have the ability to alter the quantities of all of the resources they hire.

Ø All resources/costs are variable and none are fixed. There is enough time to construct a new plant, etc.

26. Which of the following items is/are variable factors of production for Manhattan Bagel?

I. Electricity

II. The building

III. Cream cheese

* Since the amount used (and, thus, cost) depends on the number of units produced.

27. Assume that the market for unskilled labor is in equilibrium. Then an effective minimum wage is imposed.

a) Use supply and demand analysis to explain how this price control will affect each of the following…(draw a graph)

i)The wage rate of unskilled workers. The wage rate will increase because in order for a price floor to be effective, it must be set above

the market equilibrium.

ii) The number of unskilled workers employed in the market. The number of workers employed would decrease (move up along the demand curve).

iii) The number of unskilled workers willing to work. The number of workers willing to work would increase due to the higher wage.

b) Assume that the fast food industry relies on unskilled labor and assume that the demand for fast food is price inelastic. Use supply and demand analysis to explain how the change in the wage rate will affect each of the following for the fast food industry… (draw another graph)

i) The price of fast food. The price of fast food would increase because the supply curve would decrease (due to the increased costs of production).

ii) The quantity of fast food produced. The quantity of fast food produced would decrease (move up along the demand curve).

iii) The revenue earned by the fast food industry. The revenue earned by the industry would increase since demand is price inelastic (thus, the % increase in price > % decrease in quantity demanded.