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Professor C.L. Ballard Fall Semester, 2011 Economics 201 Section 1 (Forms A and B) Discussion of First Examination Students in Section 1 (the 10:20 a.m. section) took either Form A or Form B of the exam. In the discussion that follows, the questions are in the order that they followed in Form A, but the number for the corresponding question on Form B is also given. The question is given first, followed by the answer and a discussion of why that answer is correct. A-1, B-12. What can be said about a production-possibilities frontier (p.p.f.) that is a straight line? a. The p.p.f. illustrates the principle of increasing opportunity cost. b. The resources or technologies used in producing the goods on the two axes are specialized. c. The opportunity cost of additional units of each good will become greater as we produce more and more of it. d. All of the above. e. None of the above. e. In order for the p.p.f. to be a straight line, the resources and technologies used in producing the two goods must be the same, i.e., NOT specialized. (In class, we used the example of green Frisbees and white Frisbees, which use the same production process.) Thus choice (b) is incorrect. The slope of the p.p.f. is the negative of the opportunity cost of the good on the horizontal axis. If the p.p.f. is a straight line, then the slope of the line is constant, which means that the opportunity cost is also constant. If the opportunity cost is constant, it follows that choices (a) and (c) are incorrect. A-2, B-13. The price of whatchamacallits rises from $3.50 to $4.50. As a result, the quantity demanded falls from 850 to 750. What is the elasticity of demand? a. zero b. 0. c. 1. d. 2. e. the time it takes for light to travel from our sun to the Andromeda Galaxy. b. The elasticity of demand is the proportional change in quantity demanded, divided by the proportional change in price: e = (ΔQQd/Qd)/(ΔQP/P). Here the change in quantity demanded is (850-750) = 100. (There was a decrease in quantity demanded, which means that the change was negative. But our rule is to use absolute value.) The reference level of quantity demanded is the average of 850 and 750, which is 800. Thus (ΔQQd/Qd) = 100/800 = 1/8. The change in price is $(4.50 – 3.50) = $1. The reference level of price is the average of $3. and $4.50, which is $4. Thus (ΔQP/P) - $1/$4 = ¼. To get the elasticity, we divide (ΔQQd/Qd) by (ΔQP/P). This gives us (1/8)/(1/4) = ½ = 0.5. A-3, B-32. As a result of a hurricane, a large number of mushroom farms are badly flooded. Thus, it could be said that the technology of producing mushrooms has deteriorated. This change could be characterized as a. a leftward shift in the demand curve. b. a rightward shift in the demand curve. c. a leftward shift in the supply curve. d. a rightward shift in the supply curve. e. neither a shift in the demand curve nor a shift in the supply curve.
c. As a result of the flood, it is more difficult to produce mushrooms. Since this affects the producers/sellers of mushrooms, it is represented by a shift in the supply curve, not the demand curve. Since the conditions of production have deteriorated, any given price will now bring forth a lower quantity supplied than before. This means that the supply curve has shifted to the left. A-4, B-33. Which of the following will occur as a result of a tariff? a. The quantity bought and sold will be less than it would have been in the absence of the tariff. b. The gross price paid by buyers in the importing country will be greater than it would have been in the absence of the tariff. c. The net price received by sellers in the exporting country will be less than it would have been in the absence of the tariff. d. All of the above. e. (a) and (b) only. d. A tariff is a tax on imports. We model the tariff as creating a new gross-of-tariff supply curve, which is perceived by buyers. The net-of-tariff supply curve is perceived by sellers. The supply curve faced by buyers is above the supply curve faced by sellers; the vertical distance between the two curves is the tariff per unit. Thus the buyers will pay a higher price than the sellers will receive. The new equilibrium with the tariff is given by the intersection of the demand curve with the gross-of-tariff supply curve. This will occur at a lower quantity than the quantity that would have occurred in the absence of the tariff. If the buyers’ price is higher than the sellers’ price, it must be true that the quantity is less than it would have been in the absence of the tariff. Since we are assuming that the demand curve for imports is downward-sloping, the reduction in quantity will be associated with a movement upward to the left along the demand curve, to a point with a higher buyers’ price. Since we are assuming that the supply curve for exports is upward-sloping, the reduction in quantity will be associated with a movement downward to the left along the supply curve, to a point with a lower sellers’ price. A-5, B-23. In the production-possibilities frontier diagram below, point A is
- A a. associated with inefficient use of the available resources. b. associated with efficient use of the available resources. c. unattainable with the resources that are currently available. d. All of the above. e. None of the above. c. The p.p.f. shows the combinations of outputs that can be produced, if the available resources are used as efficiently as possible. By this definition, it is simply impossible to produce any combination of outputs that is upward and to the right from the p.p.f. A point like A is unattainable with the resources that are currently available. However, it may become attainable in the future, if the productive capacity of the economy is increased by improved technologies, capital investments, or increases in the quality and quantity of the labor force.
A-9, B-25. If we are given a beginning price, an ending price, a beginning quantity demanded, and an ending quantity demanded, we can calculate the own-price elasticity of demand. In calculating the elasticity, it is necessary (among other things) to determine a "reference level" of the price. In this course, what value do we use for the reference level of price? a. The beginning price. b. The ending price. c. The average, or midpoint, of the beginning and ending prices. d. The geometric mean of the beginning and ending prices, multiplied by the square root of pi, divided by the standard deviation of the prices, multiplied by the cube of Professor Ballard's height (in centimeters). e. None of the above. c. We use the average, or midpoint, for the reference level of price, and we do the same for the reference level of quantity demanded. A-10, B-19. Which of the following characteristics does an import quota have in common with a voluntary export restraint? a. Both are direct restrictions on the quantity of internationally traded goods (whereas a tariff is a price mechanism). b. Both do harm to the producers in the exporting country. c. Both do harm to the producers in the importing country. d. Both bring in revenue for the government of the importing country. e. (a) and (b). a. An import quota will harm the producers in the exporting country, but a VER may help the exporters. Thus (b) is incorrect. Neither an import quota nor a VER will harm the producers in the importing country, so (c) is also incorrect. A tariff will bring in revenue for the government of the importing country, but neither an import quota nor a VER will do so, so (d) is incorrect. However, choice (a) is correct: An import quota is a direct restriction on the quantity of trade, operated by the importing country. A VER is also a direct restriction on the quantity of trade, but it is operated by the exporting country. A-11, B-20. Which of the following does not cause the demand curve to shift to the right? a. An increase in income (assuming that the good in question is a normal good). b. A decrease in the current price of the good. c. An increase in the price of a substitute good. d. A decrease in the price of a complement good. e. None of the above: All of the above will cause the demand curve to shift to the right. b. We construct a demand curve by allowing the current price of a good to change, while holding constant all other possible influences on the behavior of buyers. When the price changes, we move along an existing demand curve. When there are changes in other things (such as tastes, incomes, the prices of related goods, or expectations of future prices or incomes), we shift to a new demand curve. Choices (a), (c), and (d) will all lead to a rightward shift in the demand curve. However, choice (b) refers to a decrease in the current price of the good. Thus choice (b) is associated with a movement downward and to the right along the existing demand curve. Choice (b) could be caused by a price ceiling, or by a rightward shift in the supply curve.
A-12, B-6. The supply of grafflopoes is given by Qs = 2P. The demand for grafflopoes is given by Qd = 30 - 3P. What are the equilibrium price and quantity of grafflopoes? a. P = $10, Q = 30. b. P = $5, Q = 10. c. P = $15, Q = 5. d. P = $5, Q = 16. e. P = $6, Q = 12. e. At the equilibrium Qs = Qd. If we substitute the supply equation and the demand equation into the equilibrium equation, we have 2P = 30 – 3P. If we then add 3P to both sides of the equation, we have 5P = 30. We then divide both sides of the equation by 5 to get P = 6. If we substitute P = 6 back into the supply equation, we have Qs = (2)(6) = 12. If we substitute P = 6 back into the demand equation, we have Qd = 30 – (3)(6) = 30 – 18 = 12. This confirms that we have calculated the equilibrium correctly, because Qs = Qd. A-13, B-7. It is useful to have a measure of the responsiveness of quantity demanded to changes in price. Why do economists use the elasticity of demand, instead of the slope of the demand curve? a. Elasticity is easier to calculate than slope. b. Elasticity is easier to pronounce than slope. c. Elasticity is a unit-free measure, whereas slope depends on the units of measurement. d. Elasticity and slope are identical; economists’ preference for elasticity is arbitrary. e. None of the above: There is a reason to prefer elasticity, but it is not listed here. c. The quantity demanded may be measured in bushels, or gallons, or cartons, or tons, or any number of other units. The price may be measured in dollars per unit, or euros per unit, or pesos per unit, or any number of other currencies. Thus the slope of the demand curve may be different for different goods in different countries, even if the underlying behavior is exactly the same. That is why elasticity is such a useful measure. The elasticity is calculated in terms of percentage changes or proportional changes, and it does not depend on the units. A-14, B-34. The Principle of Increasing Opportunity Cost a. is observed when the production-possibilities frontier has its usual, outward-bowed shape. b. indicates that the opportunity cost of additional increases in production of a good is constant. c. is observed when the two goods on the axes of the production-possibilities frontier use different resources and/or technologies. d. All of the above are correct. e. Only (a) and (c) are correct. e. The opportunity cost of a good is closely related to the slope of the p.p.f. Specifically, the slope of the p.p.f. is the negative of the opportunity cost of the good on the horizontal axis. When the p.p.f. has its usual outward- bowed shape, opportunity cost will increase as we move down and to the right along the p.p.f. Thus choice (b) is incorrect: If opportunity cost is constant, we do not have increasing opportunity cost.
A-18, B-30. We discussed tariffs, import quotas, and voluntary export restraints (VERs). Each of these interferes with international trade, and thus there are some similarities among the effects of the three policies. However, there are also some differences. In class, we suggested that, if it is absolutely necessary to interfere with international trade, it might be preferable to use a VER. Why would this be? a. A VER raises revenue for the government of the importing country. b. The words “VER” are cuter than either “tariff” or “import quota”. c. A VER may increase the profits of producers in the exporting country, and thus they may be less likely to push their government to retaliate. d. A VER actually increases the amount of imports. e. All of the above. c. A tariff will raise revenue for the government of the importing country, but a VER will not, so (a) is incorrect. A VER (like a tariff or a quota) will reduce the amount of international trade, so (d) is incorrect. Choice (c) is a good description of the advantage of a VER: Since a VER provides a benefit for the exporters, a VER is less likely to lead to a cycle of retaliation. A-19, B-31. Which of the following would push the production-possibilities frontier outward? a. A reduction in the amount of available resources that are wasted. b. An increase in the size of the labor force. c. An improvement in technology. d. All of the above: (a), (b), and (c) would all push the p.p.f. outward. e. (b) and (c) only. e. An increase in the size of the labor force will push the p.p.f. outward, and the same is true for an improvement in technology. Thus (b) and (c) are both correct. However, (a) is incorrect. The p.p.f. is defined as the graph of the set of outputs that can be produced, if all of the available resources are used as efficiently as possible. If resources are being wasted, we are not on the p.p.f.; we are below it. A reduction in the amount of waste is represented as a movement upward toward the p.p.f., not an outward shift in the p.p.f. A-20, B-10. There is an increase in the price of good H. Good H and good J are complements. What (if anything) will happen in the market for good J? a. The supply curve for good J will shift to the right. b. The supply curve for good J will shift to the left. c. The demand curve for good J will shift to the right. d. The demand curve for good J will shift to the left. e. None of the above: The increase in the price of good H will have no effect on good J. d. If two goods (such as hot dogs and hot-dog buns, or peanut butter and jelly), are complements, it means that buyers tend to consume the two goods together. An increase in the price of one complement will effectively raise the price of the entire two-good composite. This means that buyers will want to buy less of both goods. In other words, there will be a decrease in demand for the other complement (i.e., the demand curve for the other complement will shift to the left).
A-21, B-3. Which of the following is the best definition of economics? a. The study of how to make money in the stock market. b. The study of how society chooses to use its scarce resources. c. The study of how consumers decide which goods to buy. d. The study of how politicians get elected to office. e. The study of how rats and pigeons respond to incentives. b. Scarcity and choice are fundamental to economics. If resources weren’t scarce, we would not have to make any choices. A-22. B-11. Spam is an inferior good. The incomes of consumers decrease. As a result, what will happen in the market for spam? a. Demand will increase (i.e., demand will shift to the right). b. Supply will increase (i.e., supply will shift to the right). c. Demand will decrease (i.e., demand will shift to the left). d. Supply will decrease (i.e., supply will shift to the left). e. The demand and supply curves both remain unchanged. a. For a normal good, an increase in income will shift the demand curve to the right, and a decrease in income will shift the demand curve to the left. However, for an inferior good, an increase in income will shift the demand curve to the left, and a decrease in income will shift the demand curve to the right. A-23, B-28. Which of the following is a true statement regarding market equilibrium? a. At the equilibrium, quantity demanded is equal to quantity supplied. b. Graphically, equilibrium occurs where the supply curve and the demand curve intersect. c. At the equilibrium, neither a surplus nor a shortage will occur. d. All of the above. e. None of the above. d. All three of these statements are indeed accurate depictions of market equilibrium. Since the equilibrium does not involve either surpluses or shortages, there will not be any pressure for the market to move away from the equilibrium, as long as the supply and demand curves stay unchanged. A-24, B-29. (i). "When a country’s level of education increases, its per-capita income increases." (ii). "We should spend more on education". a. Statement (i) is a positive statement; statement (ii) is a normative statement. b. Statement (i) is a normative statement; statement (ii) is a positive statement. c. Statement (i) is true; statement (ii) is false. d. Statement (i) cannot be shown to be either true or false; statement (ii) may be shown to be either true or false. e. Both statements are clearly false. a. A positive statement is a statement about the actual workings of the economy. In other words, a positive statement is a statement about “what is”. Thus, if we have enough data and if we analyze the data properly, a positive statement can be shown to be true or false. In fact, there is a very strong relationship between education and per-capita income. Thus we could say that the positive statement (i) appears to be generally true. A normative statement is a statement about “what should be” or “what ought to be”. Thus normative statements depend on values. Different people can have different values. Thus a normative statement cannot be proven to be correct or incorrect. In fact, I agree with (ii), but that depends partly on my values.
A-28, B-1. Currently, the quantity of zlatis demanded is less than the quantity of zlatis supplied. This means that a. there is a surplus in the market for zlatis. b. there is a shortage in the market for zlatis. c. the market for zlatis is in equilibrium. d. there will be pressure for the price to decrease. e. (a) and (d). e. When quantity supplied is greater than quantity demanded, we have a surplus. Thus (a) is correct. The surplus means that there will be unsold goods or services, and this will put downward pressure on price, so that (d) is also correct. A-29, B-2. Draco Malfoy can produce 10 units of good A, or 5 units of good B. Between these endpoints, Draco’s production-possibilities frontier is a straight line. Ron Weasley can produce 20 units of good A, or 40 units of good B. Between these endpoints, Ron’s production-possibilities frontier is also a straight line. On the basis of this information, which of the following statements is/are true? a. For Draco, the opportunity cost of one unit of good A is 0.5 units of good B. b. For Ron, the opportunity cost of one unit of good A is two units of good B. c. Ron has comparative advantage in production of good B. d. All of the above are correct. e. Only (b) and (c) are correct. d. For Draco, the opportunity cost of ten units of A is five units of B: 10A = 5B. To find the opportunity cost of of one unit of A, we divide both sides of the equation by 10: (10/10)A = 1A = (5/10)B = 0.5B. For Ron, the opportunity cost of 20 units of A is 40 units of B: 20A = 40B. To find the opportunity cost of one unit of A, we divide both sides of the equation by 20: (20/20)A = 1A = (40/20)B = 2B. Thus the opportunity cost of A is lower for Draco than for Ron, which means that Draco has comparative advantage in the production of A. It follows that Ron has comparative advantage in the production of B. A-30, B-26. The government of Btfsplk imposes an import quota on good X. What can we expect to happen as a result? a. Consumers of good X who live in Btfsplk will be harmed (i.e., made worse off). b. Producers of good X in Btfsplk will be helped (i.e., made better off). c. Producers of good X in other countries who export to Btfsplk will be harmed (i.e., made worse off). d. Revenue will be generated for the General Jones, because the import license for good X has been granted to General Jones. e. All of the above can be expected to occur as a result of the import quota. e. An import quota restricts the quantity of imports. The reduction in quantity will push consumers upward and to the left along their demand curves. Thus buyers will pay higher prices and consume lower quantities, and they will be harmed as a result. This means that (a) is correct. The reduction in quantity will push exporters downward and to the left along their supply curves. Thus the exporting sellers will receive lower prices and they will only be able to sell a reduced quantity, and they will be harmed as a result. This means that (c) is also correct. The producers in the importing country will see a reduction in competition from abroad. This will allow them to charge higher prices and to get a larger share of the market, so they will benefit, which means that (b) is correct. Finally, as we have seen, the buyers in the importing country will pay higher prices, and the exporting sellers will receive lower prices. Someone will receive the difference between the buyers’ price and the sellers’ price. In the case of a tariff, this revenue goes to the government of the importing country. In the case of an import quota, this revenue goes to the individual or company that has the import license.
A-31, B-27. Albert is thinking of buying a dinette set at some time in the next two years. Today, he gets new information, which leads him to believe that the price of a dinette set will increase by 50%, one month from today. As a result of this new information, what will happen to Albert’s approach to the dinette-set market this month? a. His supply curve will shift to the right. b. His demand curve will shift to the right. c. His supply curve will shift to the left. d. His demand curve will shift to the left. e. All of the above (!!!) b. We can think of a dinette set bought this month as a substitute for a dinette set bought next month. When there is an increase in the price of one substitute, there will be an increase in demand for the other substitute. In this case, there is an increase in the expected price one month from now, and this will increase demand today. A-32, B-8. We observe a decrease in the equilibrium price of spiral-bound notebooks, and a decrease in the equilibrium quantity of spiral-bound notebooks. Which of the following is consistent with these changes? a. A rightward shift in the demand curve for spiral-bound notebooks. b. A leftward shift in the demand curve for spiral-bound notebooks. c. A rightward shift in the supply curve for spiral-bound notebooks. d. A leftward shift in the supply curve for spiral-bound notebooks. e. Not enough information is given to answer the question. b. As long as the supply curve is upward sloping, a decrease in demand (i.e. a leftward shift in the demand curve) will lead to decrease in both the equilibrium price and the equilibrium quantity. A-33, B-9. Assume that the elasticity of demand for plantains is 0.5. Due to a rightward shift in the supply curve for plantains, the price decreases by 10%. What will happen to the quantity of plantains demanded? a. Quantity demanded will increase by 1.5%. b. Quantity demanded will increase by 5%. c. Quantity demanded will increase by 10%. d. Quantity demanded will increase by 15%. e. Quantity demanded will increase by 20%. b. The elasticity of demand is equal to the percentage change in quantity demanded, divided by the percentage change in price: e = %ΔQQd / %ΔQP. In this question, we have e = 0.5, and %ΔQP = 10. Inserting these pieces of information into the elasticity formula, we have 0.5 = %ΔQQd / 10. If we multiply both sides of this equation by 10, we have %ΔQQd = 5. In other words, if the elasticity of demand is 0.5, and if price decreases by 10%, the quantity demanded will increase by 5%. A-34, B-21. Microeconomics is primarily concerned with a. the overall rate of inflation. b. the overall rate of unemployment. c. the behavior of households and business firms, and the way in which they interact i in markets. d. Rug Rats. e. (a) and (b). c. Choices (a) and (b) refer to subjects that are macroeconomic in nature.
