Macro Chapter 3 Homework

Does a price floor attempt to make a price higher or lower?

A price floor set above the equilibrium is an attempt to make the price higher.

What is the effect of a price ceiling on the quantity demanded of the product? What is the effect of a price ceiling on the quantity supplied? Why exactly does a price ceiling cause a shortage?

A price ceiling below the equilibrium price will cause the quantity demanded to rise and the quantity supplied to fall. This is why a price ceiling creates a shortage.

Explain why the following statement is false: "In the goods market, no seller would be willing to sell for less than the equilibrium price."

At a lower-than-equilibrium price, the quantity supplied is smaller than at the equilibrium price, but it is not zero (unless the price is extremely low). Once again, review Figure 3.4 (Demand and Supply for Gasoline). The equilibrium price is $1.40, but at a price of $1.00, sellers would still be willing and able to sell 500 million gallons. This reflects the fact that some sellers have lower costs of production than others.

A low-income country decides to set a price ceiling on bread so it can make sure that bread is affordable to the poor. The conditions of demand and supply are given in Table 3.11. What are the equilibrium price and equilibrium quantity before the price ceiling? What will the excess demand or the shortage (that is, quantity demanded minus quantity supplied) be if the price ceiling is set at $2.40? At $2.00? At $3.60? Price Quantity Demanded Quantity Supplied $1.60 9,000 5,000 $2.00 8,500 5,500 $2.40 8,000 6,400 $2.80 7,500 7,500 $3.20 7,000 9,000 $3.60 6,500 11,000 $4.00 6,000 15,000

Before the price ceiling, the equilibrium price is $2.80 and the equilibrium quantity is 7,500. If the price ceiling is set at $2.40, there will be a shortage of 1,600. If the price ceiling is set at $2.00, there will be a shortage of 3,000. If the price ceiling is set at $3.60, there will not be a shortage at all. That is because the free-market price will be $2.80, so the price ceiling will not be binding.

Demand and supply in the market for cheddar cheese is illustrated in Table 3.9. Graph the data and find the equilibrium. Next, create a table showing the change in quantity demanded or quantity supplied, and a graph of the new equilibrium, in each of the following situations: a. The price of milk, a key input for cheese production, rises, so that the supply decreases by 80 pounds at every price. b. A new study says that eating cheese is good for your health, so that demand increases by 20% at every price.

Equilibrium price is $3.40 and equilibrium quantity is 650

What determines the level of prices in a market?

For the purposes of this course, the answer is demand and supply. In your microeconomics course you will learn some limitations of pure demand-and-supply analysis.

Supply and demand for movie tickets in a city are shown in Table 3.10. Identify the equilibrium price and quantity. Use tables to show the effect of the following two changes: a. Three new nightclubs open. They offer decent bands and have no cover charge, but make their money by selling food and drink. As a result, demand for movie tickets falls by six units at every price. b. The city eliminates a tax that it had been placing on all local entertainment businesses. The result is that the quantity supplied of movies at any given price increases by 10%.

The equilibrium price is initially $8.00 and the equilibrium quantity is 21. a. The new equilibrium price is $6.00 and the new equilibrium quantity is 18. This is illustrated in the table: $2.80 $3.00 $3.20 $3.40 $3.60 $3.80 $4.00 $4.20 500 600 700 800 900 1000 Price in Dollars Pounds of Cheese in Thousands Market for Cheese Demand Supply Demand 2 Price per Ticket Quantity Demanded Quantity Supplied $5.00 20 16 $6.00 18 18 $7.00 16 20 $8.00 15 21 $9.00 14 22 b. The new equilibrium price is $7.00 and the new equilibrium quantity is 22. This is illustrated in the table: Price per Ticket Quantity Demanded Quantity Supplied $5.00 26 17.6 $6.00 24 19.8 $7.00 22 22 $8.00 21 23.1 $9.00 20 24.2

Agricultural price supports result in governments holding large inventories of agricultural products. Why do you think the government cannot simply give the products away to poor people?

If the government gave away the products, demand for them would fall. (Why pay for something when you can get it free?) That will make the surplus the government has to buy even bigger.

A tariff is a tax on imported goods. Suppose the U.S. government cuts the tariff on imported flat screen televisions. Using the four-step analysis, how do you think the tariff reduction will affect the equilibrium price and quantity of flat screen TVs?

Step 1. Draw the graph with the initial supply and demand curves. Label the initial equilibrium price and quantity. Step 2. Did the economic event affect supply or demand? A tariff is treated like a cost of production, so this affects supply. Step 3. A tariff reduction is equivalent to a decrease in the cost of production, which we can show as a rightward (or downward) shift in supply. Step 4. A rightward shift in supply causes a movement down the demand curve, lowering the equilibrium price and raising the equilibrium quantity.

Does a price ceiling attempt to make a price higher or lower?

A price ceiling set below the equilibrium price is an attempt to make the price lower.

When analyzing a market, how do economists deal with the problem that many factors that affect the market are changing at the same time?

Economists consider the effect of each factor separately. This is the essence of the ceteris paribus approach in which all other relevant variables are temporarily held constant.

When the price is above the equilibrium, explain how market forces move the market price to equilibrium. Do the same when the price is below the equilibrium

If the price is above the equilibrium level, the quantity supplied will exceed the quantity demanded, so there will be a surplus. A surplus means businesses are producing more than they are selling. In order to get rid of accumulating inventories, firms will cut the price (otherwise known as putting the good "on sale.") As the price falls, people will buy more and sellers will produce less. This will continued until the quantity demanded and quantity supplied are equal. If the price is below the equilibrium level, the quantity demanded will exceed the quantity supplied, so there will be a shortage. A shortage means people want to buy more than firms are producing. That will cause the price to rise. As the price rises, buyers will buy less and sellers will produce more. This will continue until the quantity demanded and quantity supplied are equal.

If the price is above the equilibrium level, would you predict a surplus or a shortage? If the price is below the equilibrium level, would you predict a surplus or a shortage? Why?

If the price is above the equilibrium level, the quantity supplied will exceed the quantity demanded, so there will be a surplus. If the price is below the equilibrium level, the quantity demanded will exceed the quantity supplied, so there will be a shortage.

What does a downward-sloping demand curve mean about how buyers in a market will react to a higher price?

It means that, all else equal, as the price rises, people will buy less of the good.

Let's think about the market for air travel. From August 2014 to January 2015, the price of jet fuel decreased roughly 47%. Using the four-step analysis, how do you think this fuel price decrease affected the equilibrium price and quantity of air travel?

Step 1. Draw the graph with the initial supply and demand curves. Label the initial equilibrium price and quantity. Step 2. Did the economic event affect supply or demand? Jet fuel is a cost of producing air travel, so a decrease in jet fuel price affects supply. Step 3. A decrease in the price of jet fuel caused a decrease in the cost of air travel. We show this as a downward or rightward shift in the supply of air travel. Step 4. A rightward shift in supply causes a movement down the demand curve, lowering the equilibrium price of air travel and increasing the equilibrium quantity.

Suppose there is soda tax to curb obesity. What should a reduction in the soda tax do to the supply of sodas and to the equilibrium price and quantity? Can you show this graphically? Hint: assume that the soda tax is collected from the sellers.

The soda tax is collected from the sellers, so a reduction in the tax will reduce sellers' costs. Lower costs will increase supply, resulting in a lower equilibrium market price and a higher equilibrium market quantity, as illustrated below:

Name some factors that can cause a shift in the supply curve in markets for goods and services.

The supply curve can shift if any of the following change: input prices, natural conditions, production technology, business taxes and regulations, and the expected future price of the good

Why do economists use the ceteris paribus assumption?

To make it easier to analyze complex problems. Ceteris paribus allows you to look at the effect of one factor at a time on what it is you are trying to analyze. When you have analyzed all the factors individually, you add the results together to get the final answer.

Most government policy decisions have winners and losers. What are the effects of raising the minimum wage? It is more complex than simply producers lose and workers gain. Who are the winners and who are the losers, and what exactly do they win and lose? To what extent does the policy change achieve its goals?

Workers who keep their jobs are better off because they have a higher wage. But the higher wage means that some workers will lose their jobs, so they will become worse off. The higher wage raises costs for business. Some may be able to pass the cost on to consumers in the form of higher prices for their output; others may go out of business or have lower profit. If the purpose of the minimum wage is to improve the lives of the working poor (as opposed to middle-class teenagers), the empirical evidence suggests that it does not help the working poor as a group. 0 50 100 150 200 250 0 20000 40000 60000 80000 100000 Price Quantity Market for the Sony Walkman Demand 1 (pre-iPod) Demand 2 (iPod introduced) Demand 3 (tariff on iPods reduced) Supply Most economists prefer policies that target the working poor directly, such as the Earned Income Tax Credit.

What is the difference between the demand and the quantity demanded of a product, say milk? Explain in words and show the difference on a graph with a demand curve for milk.

"Demand" refers to the entire demand curve; the quantity demanded refers to a single point on the demand curve. For example, in the picture below, the quantity demanded is 40 when the price is $3.

What causes a movement along the demand curve? What causes a movement along the supply curve?

A movement along the demand curve is caused by a change in price, usually caused by a shift in the supply curve. A movement along the supply curve is caused by a change in price, usually caused by a shift in the demand curve.

What would be the impact of imposing a price floor below the equilibrium price?

A price floor is a legal minimum price. Consequently, if it is set below the equilibrium price it will not be binding. The price will find its equilibrium level, which is above the price floor.

We know that a change in the price of a product causes a movement along the demand curve. Suppose consumers believe that prices will be rising in the future. How will that affect demand for the product in the present?

An increase in the expected future price of a good will make people want to buy more of the good now, before the price rises (unless the good cannot be easily stored without waste). That will increase the demand for the good in the present. For example, if you knew that the price of pens would increase substantially next month, you might go buy more of them now.

What is the difference between the supply and the quantity supplied of a product, say milk? Explain in words and show the difference on a graph with the supply curve for milk.

Answer: "Supply" refers to the entire supply curve; the quantity supplied refers to a single point on the supply curve. For example, in the picture below, the quantity supplied is 300 when the price is $8.

Suppose both of these events took place at the same time. Combine your analyses of the impacts of the iPod and the tariff reduction to determine the likely impact on the equilibrium price and quantity of Sony Walkman-type products. Show your answer graphically.

As already discussed, both events reduced the demand for the Walkman, and both drove down its equilibrium price and quantity. This is illustrated in the following graph:

Explain why the following statement is false: "In the goods market, no buyer would be willing to pay more than the equilibrium price."

At a higher-than-equilibrium price, the quantity demanded is smaller than at the equilibrium price, but it is not zero (unless the price is extremely high). Again, review Figure 3.4 (Demand and Supply for Gasoline). The equilibrium price is $1.40, but at a price of $1.80, people would still buy 500 million gallons.

Review Figure 3.4 (Demand and Supply for Gasoline) again. Suppose the price of gasoline is $1.00. Will the quantity demanded be lower or higher than at the equilibrium price of $1.40 per gallon? Will the quantity supplied be lower or higher? Is there a shortage or a surplus in the market? If so, of how much?

At a price of $1.00, the quantity demanded would be 800 million gallons, which is higher than at a price of $1.40 (600 million gallons). At a price of $1.00, the quantity supplied would be 500 million gallons, which is lower than at a price of $1.40 (600 million gallons). There will be a shortage of 300 million gallons (800 minus 500).

What is the relationship between quantity demanded and quantity supplied at equilibrium? What is the relationship when there is a shortage? What is the relationship when there is a surplus?

At the market's equilibrium, the quantity demand and the quantity supplied will be equal. If there is a shortage, the quantity demand will be larger than the quantity supplied. If there is a surplus, the quantity demand will be smaller than the quantity supplied.

Review Figure 3.4. Suppose the price of gasoline is $1.60 per gallon. Is the quantity demanded higher or lower than at the equilibrium price of $1.40 per gallon? And what about the quantity supplied? Is there a shortage or a surplus in the market? If so, of how much?

Because $1.60 per gallon is above the equilibrium price, the quantity demanded would be lower at 550 gallons and the quantity supplied would be higher at 640 gallons. (These results are due to the laws of demand and supply, respectively.) The outcome of lower Qd and higher Qs would be a surplus in the gasoline market of 640 - 550 = 90 gallons.

Consider the demand for hamburgers. If the price of a substitute good (for example, hot dogs) increases and the price of a complement good (for example, hamburger buns) increases, can you tell for sure what will happen to the demand for hamburgers? Why or why not?

If the price of a substitute for hamburgers rises, people will want to eat more hamburgers, so the demand for hamburgers will rise. If the price of a complement to hamburgers rises, people will want to eat fewer hamburgers, so the demand for hamburgers will fall. Without more precise information about the magnitude of the two effects, it is impossible to say what the net effect will be.

Does a price ceiling change the equilibrium price?

No. A price ceiling is a legal restriction. Equilibrium is an economic condition. People may or may not obey the price ceiling, so the actual price may be at or above the price ceiling, but the price ceiling does not change the equilibrium price.

Use the four-step process to analyze the impact of a reduction in tariffs on imports of iPods on the equilibrium price and quantity of Sony Walkman-type products.

Tariffs are usually paid by the firm importing the good (in this case, Apple). The reduction in the tariff on iPods reduced Apple's costs, so the supply of iPods would increase. An increase in the supply of iPods would reduce the equilibrium price of iPods. Because the iPod and the Walkman are substitutes, the lower price for the iPod would reduce the demand for the Walkman. That, in turn, would reduce the Walkman' equilibrium price and quantity.

Name some factors that can cause a shift in the demand curve in markets for goods and services.

The demand curve can shift if any of the following change: income, tastes and preferences, demographics, prices of related goods, and the expected future price of the good.

Review Figure 3.4 (Demand and Supply for Gasoline). Suppose the government decided that, since gasoline is a necessity, its price should be legally capped at $1.30 per gallon. What do you anticipate would be the outcome in the gasoline market?

The equilibrium price is $1.40. A price below that such as $1.30 would create a shortage. That means that some people would not be able to buy gasoline.

Table 3.6 shows information on the demand and supply for bicycles, where the quantities of bicycles are measured in thousands. Price Quantity Demanded Quantity Supplied $120 50 36 $150 40 40 $180 32 48 $210 28 56 $240 24 70 Table 3.6 a. What is the quantity demanded and the quantity supplied at a price of $210? b. At what price is the quantity supplied equal to 48,000? c. Graph the demand and supply curve for bicycles. How can you determine the equilibrium price and quantity from the graph? How can you determine the equilibrium price and quantity from the table? What are the equilibrium price and equilibrium quantity? d. If the price were $120, what would the quantities demanded and supplied be? Would a shortage or surplus exist? If so, how large would the shortage or surplus be?

a. At a price of $210, the quantity demanded would be 28,000 and the quantity supplied would be 56,000. b. The quantity supplied is 48,000 when the price is $180. c. The equilibrium price and quantity can be found on the graph by looking for the point where the lines cross. The equilibrium price and quantity can be found on the table by finding the price where the quantity demanded equals the quantity supplied. In this case, the equilibrium price is $150 and the equilibrium quantity is 40,000. d. At a price of $120, the quantity demanded would be 50,000 and the quantity supplied would be 36,000. There would be a shortage of 14,000.

How does a price floor set above the equilibrium level affect quantity demanded and quantity supplied?

By increasing the price, the quantity demanded will fall and the quantity supplied will rise. That will create a surplus.

How does a price ceiling set below the equilibrium level affect quantity demanded and quantity supplied?

By reducing the price, the quantity demanded will rise and the quantity supplied will fall. That will create a shortage.

How can you locate the equilibrium point on a demand and supply graph?

Find the point where the demand curve crosses the supply curve. In other words, find the price where the quantity demand and the quantity supplied will be equal.

Will demand curves have the same exact shape in all markets? If not, how will they differ?

No. Some will be steep, some will be flat, some will be curved, and some will be straight. Nearly all of them will be negatively sloped.

Will supply curves have the same shape in all markets? If not, how will they differ?

No. Some will be steep, some will be flat, some will be curved, and some will be straight. Nearly all of them will be positively sloped.

How do you suppose the demographics of an aging population of "Baby Boomers" in the United States will affect the demand for health care?

Older people tend to be sicker people, so the demand for healthcare is expected to rise.

How does one analyze a market where both demand and supply shift?

One analyzes each one separately and then compares the result. For example, suppose both demand and supply fall. By itself, the decrease in demand will drive down both equilibrium price and quantity. By itself, the decrease in supply will increase equilibrium price but decrease equilibrium quantity. Both effects reduce equilibrium quantity, so we can be sure that equilibrium quantity will fall. But the effect on equilibrium price is ambiguous; the two effects are pushing it in opposite directions. Without more precise information, we cannot say what will happen to price.

Can you propose a policy that would induce the market to supply more rental housing units?

One existing policy is for the government to subsidize poor people's rent. That reduces the amount of rent the poor have to pay without forcing owners to accept a lower payment. That provides them an incentive to build more rental units.

Use the four-step process to analyze the impact of the advent of the iPod (or other portable digital music players) on the equilibrium price and quantity of the Sony Walkman (or other portable audio-cassette players).

The advent of digital music players such as the iPod reduced the demand for audio cassette players like the Walkman. This can be considered a change in tastes and preferences because many people preferred digital music players to audio cassette players. In the market for audio cassette players, the decrease in demand caused both the equilibrium price and quantity to fall.

In an analysis of the market for paint, an economist discovers the facts listed below. State whether each of these changes will affect supply or demand, and in what direction. a. There have recently been some important cost-saving inventions in the technology for making paint. b. Paint is lasting longer, so that property owners need not repaint as often. c. Because of severe hailstorms, many people need to repaint now. d. The hailstorms damaged several factories that make paint, forcing them to close down for several months.

a. An improvement in technology that reduces the cost of production will cause an increase in supply. Alternatively, you can think of this as a reduction in price necessary for firms to supply a given quantity. Either way, this can be shown as a rightward (or downward) shift in the supply curve. b. An improvement in product quality is treated as an increase in tastes or preferences, meaning consumers demand more paint at any price level, so demand increases or shifts to the right. If this seems counterintuitive, note that demand in the future for the longer-lasting paint will fall, since consumers are essentially shifting demand from the future to the present. c. An increase in need causes an increase in demand or a rightward shift in the demand curve. d. Factory damage means that firms are unable to supply as much in the present. Technically, this is an increase in the cost of production. Either way you look at it, the supply curve shifts to the left.

Many changes are affecting the market for oil. Predict how each of the following events will affect the equilibrium price and quantity in the market for oil. In each case, state how the event will affect the supply and demand diagram. Create a sketch of the diagram if necessary. a. Cars are becoming more fuel efficient, and therefore get more miles to the gallon. b. The winter is exceptionally cold. c. A major discovery of new oil is made off the coast of Norway. d. The economies of some major oil-using nations, like Japan, slow down. e. A war in the Middle East disrupts oil-pumping schedules. f. Landlords install additional insulation in buildings. g. The price of solar energy falls dramatically. h. Chemical companies invent a new, popular kind of plastic made from oil.

a. More fuel-efficient cars means there is less need for gasoline. This causes a leftward shift in the demand for gasoline and thus oil. Since the demand curve is shifting down the supply curve, the equilibrium price and quantity both fall. b. Cold weather increases the need for heating oil. This causes a rightward shift in the demand for heating oil and thus oil. Since the demand curve is shifting up the supply curve, the equilibrium price and quantity both rise. c. A discovery of new oil will make oil more abundant. This can be shown as a rightward shift in the supply curve, which will cause a decrease in the equilibrium price along with an increase in the equilibrium quantity. (The supply curve shifts down the demand curve so price and quantity follow the law of demand. If price goes down, then the quantity demanded goes up.) d. When an economy slows down, it produces less output and demands fewer inputs, including energy, which is used in the production of virtually everything. A decrease in demand for energy will be reflected in a decrease in the demand for oil, or a leftward shift in demand for oil. Since the demand curve is shifting down the supply curve, both the equilibrium price and quantity of oil will fall. e. Disruption of oil pumping will reduce the supply of oil. This leftward shift in the supply curve will show a movement up the demand curve, resulting in an increase in the equilibrium price of oil and a decrease in the equilibrium quantity. f. Increased insulation will decrease the demand for heating. This leftward shift in the demand for oil causes a movement down the supply curve, resulting in a decrease in the equilibrium price and quantity of oil. g. Solar energy is a substitute for oil-based energy. So if solar energy becomes cheaper, the demand for oil will decrease as consumers switch from oil to solar. The decrease in demand for oil will be shown as a leftward shift in the demand curve. As the demand curve shifts down the supply curve, both equilibrium price and quantity for oil will fall. h. A new, popular kind of plastic will increase the demand for oil. The increase in demand will be shown as a rightward shift in demand, raising the equilibrium price and quantity of oil.