1.A. Correct. Postal delivery is not a public good. There is rivalry in consumption--one person's mail takes resources that cannot be used for another persons'. There is excludability--try mailing a letter without a stamp. The Postal Service is a regulated monopoly because of its cost structure--the minimum efficient scale is very large compared to the market.
1.B. No, see A.
1.C. No, see A.
1.D. No, see A.
2.A. Social security is both rivalrous in comsumption and excludable. Many of you because of age requirements do not meet the requirements.
2.B. The transfer is between young and old workers, not between rich and poor persons.
2.C. Correct. The transfer is from younger workers, whose future tax payments have a higher present value than their future benefits, to older workers and retirees, for whom the present value of future taxes is less than the present value of future benefits. Remember that benefits do not depend directly upon taxes paid.
2.D. The first statement is true but the Social Security system is a tax and transfer system between young and old workers.
2.E. This is wrong because the benefits are indexed and no private system can replicate this feature and some workers of all ages will prefer it.
3.A. This is a true statement. Employees place a positive value on the mandated benefit and will increase the labor supply.
3.B. This is a true statement. The mandated benefit imposes a cost on the employer who will demand less employees and shifts the labor demand downward.
3.C. Under a mandated benefit, labor demand falls and labor supply increases. Wages must decrease.
3.D. Correct. Employees generally place a positive value on mandated benefits (this is why A is true) but not as high as the cost of the benefit (this is why the benefit has to be mandated) so the employees would generally prefer to receive the cost of the benefit as wages.
3.E. This is a true statement. Another example is the family leave policy instituted for expectant parents.
4.A. No, the market doesn’t compensate investors for this risk, called diversifiable risk, that individual stocks display. An investor can eliminate diversifiable risk by holding common stock shares in many different companies instead of owning the common stock of just a few companies.
4.B. Correct. This premium compensates the investor for market risk (all stocks tend to go up or down in return at the same time) and not for diversifiable risk (the fact that some stocks go up when others go down). See the lecture on capital markets.
4.C. Common stock must provide a higher average return primarily because of the underlying risk. If common stocks and U.S. Treasury Bonds had the same average return, U.S. Treasury Bonds would be the better investment.
4.D. U.S. Treasury Bonds are a risk free but not necessarily a poor investment.
4.E. The stock market is too large for investment advisors to have any significant impact.
5.A. This is a true statement. C1 represents an isocost line which shows all the different combinations of labor and capital given a constant cost. See Lecture Notes 20, November 6, 1997.
5. B. Q2 represents an isoquant which shows all the combinations of labor and capital which produced the same amount of output.
5.C. Correct. All the other choices are true, see lecture on factor markets. C is false because the point C on the curve Q2 is least cost for factor prices shown on C2, which is parallel to C3, and not those on C1.
5.D. Another true statement, see C.
5.E. This is a true statement, see C.
6.A. Not necessarily true. All that has been shown is that higher paid workers tend to earn a higher wage.
6.B. Again not necessarily true. See C.
6.C. Correct. More human capital implies that the worker is more productive and, thus, will receive a higher wage rate. That's why you're in school. See the lecture on labor markets.
6.D. No, see C.
6.E. No, see C.
7.A. Correct. The wage rate of business managers is a wage rate of an alternative employment choice (or human capital investment) for the potential lawyer. Hence the supply curve of business managers decreases (better alternatives elsewhere for all business manager wage rates) but, in the lawyer market the lawyer's wage rate is the price that varies along the supply curve, so there will be an increase in the quantity supplied of lawyers.
7.B. No, the supply curve of business managers should decrease.
7.C. No, both statements are false.
7.D. No, see 7.A.
8.A. Correct. Only A and B make any sense. A is correct because the marginal social benefit exceeds the marginal private benefit in the case of an externality so the subsidy makes the marginal private benefit coincide with the marginal social benefit.
8.B. No, the marginal social benefit exceeds the marginal private benefit.
8.C. This would result in too much of the good being produced.
8.D. See 8.A.
9.A. Correct. The tendency for labor supply to be upward sloping is caused by the substitution effect: consumption goods are substituted for leisure when the wage rate rises. Declining leisure translates directly into increased labor supply.
9.B. No, this describes the labor demand.
9.C. No, this describes a labor supply that will work at a fixed wage.
9.D. No, this describes a fixed labor supply.
9.E. No, see 9.A.
10.A. This represents the overall change in a firm's preference for labor and capital given a decrease in the price for capital.
10.B. This represents the expansion effect given a decrease in the price for capital.
10. C. Correct. Substitution of capital for labor, because of the lower relative price of capital, is represented by the movement from A to B.
10.D. This represents the substitution effect because of a lower relative price in labor.
11.A. Correct. The substitution effect increases the demand for fuel, which becomes relatively cheaper when the price of labor increases. The expansion effect decreases the demand for both fuel and labor, in this case, because the marginal cost of output, and therefore the product price, has increased because of the increase in the price of labor. So, the substitution effect must dominate if the demand for fuel increases.
11.B. No, see 11.A.
11.C. No a price increase means that the original input bundle is no longer affordable, one of the input quantities must decrease.
11.D. No, without knowing the full expansion and substitution effects, one cannot say if this is true in all cases.
12.A. No, the deadweight loss is largest in this case.
12.B. No, inelastic supply reduces the deadweight loss, but elastic demand increases it.
12.C. No, inelastic demand reduces the deadweight loss, but elastic supply increases it.
12.D. Correct. The deadweight loss is smaller the closer the demand curve is to vertical (perfectly inelastic) and the supply curve is to vertical (perfectly inelastic).
12.E. A market with many substitutes implies that demand is elastic, which is not correct. Elastic demand increases the deadweight loss from the tax.
13.A. Correct. The new equilibrium is the point D, on the shifted demand and supply curve. The deadweight loss is the triangle from the original equilibrium to the new quantity on the original supply and demand curves; hence ACE.
13.B. No, this is only part of the deadweight loss.
13.C. No, see 13.A.
13.D. No, see 13.A.
13.E. No, see 13.A.
14.A. Alma does have a comparative advantage in clutch repairs relative to Fred but it is not based on her absolute advantage. It is based on her lower relative price of clutch repairs (0.33 brake repairs/clutch) as compared to Fred's (0.50 brake repairs/clutch).
Clutch Repairs/ day |
Brake Repairs/ day |
Relative Price of Clutch Repairs (brakes/clutch) |
Relative Price of Brake Repairs (clutches/brake) |
|
Alma |
6.00 |
2.00 |
0.33 |
3.00 |
Fred |
3.00 |
1.50 |
0.50 |
2.00 |
14.B. Alma does not have a comparative advantage in replacing brakes relative to Fred. See the table above.
14.C. Fred does not have a comparative advantage in replacing clutches relative to Alma. See the table above.
14.D. Correct. Fred has a comparative advantage in replacing brakes relative to Alma. His relative price of brake repairs is 2.00 clutches/brake repair whereas Alma's is 3.00 clutches/brake repair. See the table above.
14.E. If Alma and Fred go into business together, they can gain from specialization. Comparative advantage assures that they can produce more with at least one of them specialized than they could produce on their own.
15.A. This is the risk free promise interest rate.
15.B. No, see 15.D.
15.C. No, see 15.D.
15.D. Correct. Both promises have the same future value ($100) by construction. The risk free promise implies a risk free rate of 5% annual interest. The risky promise's present value implies an annual interest rate of 25%. The risk premium is the difference between these rates.
15.E. This is annual interest rate on the risky promise.
16.A. No, this is a risk that depends upon the overall condition of the economy.
16.B. Correct. Diversifiable risks do not depend upon the condition of the economy.
16.C. No, see 16.B.
16.D. No, see 16.B.
16.E. No, see 16.B.
17.A. This is a true statement but not the best answer, see 17.E.
17.B. This is a true statement but not the best answer, see 17.E..
17.C. At a $300 fee Holly would not approve of the plan. If the plan requires a unanimous vote, the plan would fail.
17.D. False, a price discriminating monopolist would charge each person according to their marginal benefit and earn a profit of $700.
17.E. Correct. Ingrid is the median voter, and she would favor plan A. $500 is the revenue maximizing price but the $1,500 it yields in total revenue doesn't cover building costs so, B is also true.
18.A. Correct. This is the definition of gains to trade.
18.B. False. A voluntary exchange between the buyer and seller implies that there is a mutual benefit, which is just another way of thinking about gains to trade.
19.A. This is a true statement but not the best answer, see 19.E.
19.B. This is a true statement but not the best answer, see 19.E.
19.C. Oskar is the median voter but would approve of all plans where the equal tax is less than his marginal benefit of $450.
19.D. Revenue is maximized at $450 for a single price monopolist but the total revenue of $1,350 does not cover the cost of $2,000. The monopolist would not build the rink.
19.E. Correct. Oskar is the median voter, and he favors plan A. The price discriminating monopolist would make only $1,800 in total revenue, which does not cover building costs, so B is also true.
20.A. Barring externalities, market outcomes are Pareto efficient. This is the first welfare theorem of economics.
20.B. Correct. This is the political basis for tax and transfer systems. E is wrong because the distortions may be large or small; however, they are accepted as the cost of making the income distribution more equal. A is not the best answer because it describes tax and subsidy systems designed to deal with externalities, not tax and transfer systems. Income redistribution is not an externality.
20.C. Governments usually do not have better information on the value of money.
20.D. Tax and transfer systems affect market outcomes, often leading to substantial distortions.
20.E. The distortions can sometimes outweigh the benefits of equal income distributions. Some agricultural price supports such as sugar show that the total loss to consumers is much greater than the total benefit to sugar cane growers.
21.A. No, the cleanup costs should shift in the supply curve and the quantity should fall.
21.B. No, the supply curve should shift in, resulting in an price increase.
21.C. No, impossible to determine without knowing more information on the cleanup costs and total amount reduced.
21.D. Correct. This is the point of the tax--the supply curve shifts up by the amount of the tax (decreases).
21. E. Consumer will purchase less of the good. As the supply curve shifts in, the quantity demand will fall.
22.A. No, this is a true statment. See 22.E.
22.B. No, this is a true statment. See 22.E.
22.C. No, this is a true statment. See 22.E.
22.D. No, this is a true statment. See 22.E..
22.E. Correct. See the table below.
23.A. No, the answer has to be between the Japanese and Korean rice prices of 2 computers/unit of rice and 1/2 computer/unit of rice, respectively. This outcome is not feasible.
23.B. No, the answer has to be between the Japanese and Korean rice prices of 2 computers/unit of rice and 1/2 computer/unit of rice, respectively. This outcome is not feasible.
23.C. No, the answer has to be between the Japanese and Korean rice prices of 2 computers/unit of rice and 1/2 computer/unit of rice, respectively. This outcome is not feasible.
23.D. Correct. The international price must lie between the price of rice in terms of computers in Korea (1/2) and the price of rice in terms of computers in Japan (2).
23.E. No, the answer has to be between the Japanese and Korean rice prices of 2 computers/unit of rice and 1/2 computer/unit of rice, respectively. This outcome is not feasible.
24.A. The goal is to increase production of the good. Marginal private benefit is less than the marginal social benefit, so an individual will produce too little of the good.
24.B. Correct. The goal is to equate marginal social cost and marginal social benefit. This can be accomplished by a subsidy to either the consumers or producers.
24.C. While this leads to more of the good being produced, reducing production costs are not always the appropriate policy.
24.D. This is completely opposite of the government's objective. This will result in less of the good being produced at all given prices.
25.B. Correct. MR=MC at quantity = 24 and the associated price on the demand curve is $17. We know the firm is a monopolist because MR is declining as Q increases, so answer A is wrong.
26.B. Correct. Since both income rose and quantity demanded of jellybeans rose we can conclude that the income elasticity is positive. Since change in quantity demanded was five percent and change in income was ten percent, the ratio is ½ and, therefore, inelastic.
27.A. Correct. The report in the Ithaca Journal increases the demand for salmon sushi, and the over-logging in Oregon decreases the supply of salmon on the market, thus increasing price which will cause Ms. Matsumoto to decrease her supply of sushi. The increased demand and decreased supply both act to raise price.
28.E. Correct. With AVC < P < ATC and P = MC the short-run profit-maximizing strategy is to produce the 50 tons of oranges and make the (temporary) economic loss. In this case, short-run profit maximizing behavior implies that the farm is not shut down, because P > AVC; however, there are economic losses because P < ATC. The orange farm might be closed in the long run if the price does not return to at least ATC.
29.E. Correct. Using the profit maximizing rule, P = MC, then Joe should sell 4 units of jewelry. Total revenue = P x Q, so 18 x 4 = 72.
30.A. Answer A is just the depreciation cost, 1.50 = 20.8 (price of a five-year-old plane) – 19.3 (price of a 6-year-old plane).
30.B. Answer B is just the opportunity cost of the money, 2.50 = 20.8 x 0.12 .
30. C. Correct. The rental price is equal to the opportunity cost of using the money to purchase the airplane plus the economic depreciation 4.00 = 2.50 + 1.50.
30.D. Answer D miscomputes the depreciation using (30.0-14.3)/10.
30.E. Answer E is correct for a brand new 737.
31.D. Correct. Quantity supplied (net of the tax) and quantity demanded (inclusive of the tax) are equal at this point. See the table below.
32.B. Correct. Setting the equations equal gives us a price of 5 and a quantity of 25. Using the point slope formula at P=5 and Q=25 we get -3 x 5/25 = -3/5.
33.C. Correct. Setting the ratio of prices equal to the ratio of marginal utilities and Jeffís current consumption level requires that Jeff buy more malt and less hops to get the MU of malt down and the MU of hops up.
34.D. Correct. All firms produce where marginal revenue equals marginal cost. As long as marginal revenue is greater than marginal cost, profits will increase when output is increased.
35.E. Correct. Without regulation, neither firm has an incentive to reduce pollution, so each will produce the maximum amount, since that is the cheapest process.
36.D. Correct. Game theory models the interdependence in the decision making. All the other answers are consistent with the basic maximizing models used for competitors or monopolists.
37.B. Correct. Deadweight loss = 0.5 T2/(slope of supply - slope of demand) = 5.
38.A. Correct. Foregone interest = $2,000. Hence, economic depreciation is $1,700 = $3,700 - $2,000 and the resale price of the one year old Honda is $18,300 = $20,000 - $1,700.
39.C. Correct. All the possibilities are shown in the table below.
40.C. Correct. Sungyon sacrifices two feedings to make a wedding cake while Jamie sacrifices three feedings to make a wedding cake, so Sungyon has a comparative advantage at wedding cakes even though Jamie has the absolute advantage. Jamie should feed the baby and Sungyon should make cakes in the partnership. See the table.
41.D. Correct. Price rises by 3 percent but quantity falls by 7 percent, so total revenue falls by 4 percent (= 3 - 7, approximately). Answer E has the formula wrong. None of the other answers make any sense at all.
42.A. Correct. The definition of unit price elastic is that total expenditures remain a constant when the price changes.
43.D. Correct. Country U has an internal relative price of films of 40 kl wine/film and country F has an internal relative film price of 60 kl wine/film. An international film price of 30 kl wine/film permits specialization of both countries in wine, which they sell for films on the international market. For both countries producing wine and buying films results in greater consumption of both commodities.
44.B. Correct. The definition of an elasticity relates to the percentage changes.
45.E. Correct. Rationing by standing in line is not Pareto efficient. It would be Pareto efficient to allow Sam to buy Jack's ticket in a secondary market (usually called a "scalper's market").
46.C. Correct. The easiest way to solve this is to note that the new supply schedule, including the effect of the tax is (P=13, Q=20), (P=14, Q=30), (P=15, Q=40), (P=16, Q=50). So Q demanded = Q supplied = 50 at a (tax inclusive) price of 16.
47.E. Correct. The farther the Lorenz curve gets from the equality line, the more unequal the distribution of income.
48.A. Correct. The slope of the budget line, the price of mangoes in terms of kiwi is -$1.50/$0.25 = -6.00. Remember that the budget constraint shows feasible pairs of mangoes and kiwis, so it must slope downward.
49.C. Correct. Demand increases for substitutes when the price of the good increases. Quantity demanded of coffee decreases, not its demand curve, so D is false.
50.D. Correct. The demand for clothing increased when real income increased (B to C), so clothing is a normal good.
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