MicroEcon Exam Review

Prof. talked in class about the decision to buy or rent a house. Which of the following best represents the argument he made?

Foregone investment earnings on a mortgage's down payment is a potentially important implicit cost of buying a house. An implicit cost is "something you give up" when money does not change hands. That includes foregone investment earnings. When you give the down payment money to the bank, you give up the opportunity to make investment earnings with that money. This is a cost of buying a house. You don't have to give a down payment to the bank if you choose to rent the house.

Which of the following would most likely decrease both the equilibrium price and quantity of plastic bags (an inferior good)?

an increase in consumer income

Suppose researchers discover that kale provides protection against heart disease to those who eat it. We would expect to see

an increase in the demand for kale.

Which of the following is likely to have the least price elastic demand?

computers

A reduction of the amount of college scholarships issued by private foundations to students would

decrease the demand for education.

Radio manufacturing workers earn the minimum wage rate mandated by law. If the government raises the minimum wage, then it is most likely that the

firm must increase output to maintain profit levels. This is an increase in the cost of production through the cost of employing workers. Higher costs of production shift the supply curve to the left. Other things equal, firms will probably produce fewer radios overall. The demand for workers will not increase; rather, the quantity demanded of radio assembly workers will likely decrease, since the price of employing them (the wage) has risen.

Which of the following most accurately describes a long-run equilibrium in a perfectly competitive market?

firms are price-takers; price equals marginal cost for each firm; firms are earning positive accounting profit Recall the three features of a competitive market: many firms and buyers, homogeneous good, free entry and exit. Recall the three features of a competitive equilibrium: firms maximize profits, markets clear, no firms want to enter or exit. The correct answer is consistent with all of those: firms are price-takers because of many firms and homogeneous goods; price equals marginal cost for each firm because they are maximizing their profits; firms are earning positive accounting profit because economic profit is zero (firms don't want to enter or exit). Other options have at least one element inconsistent with a competitive equilibrium. There won't be a single firm (there are many). Marginal cost isn't below the price (they're equal). Average variable costs are not at their lowest possible level (average total costs are), and market demand isn't necessarily perfectly price elastic.

An excise tax on suppliers

increases the price at which suppliers are willing to sell. A tax on suppliers increases the cost of supplying the good. By increasing costs, the tax increases the minimum price at which a supplier is willing to sell the good. It directly affects supply behavior and if anything decreases the number of suppliers in the market.

Normative conclusions

involve value judgments.

Suppose your lawn mowing business is operating in a perfectly competitive market. If you are mowing a number of lawns where marginal revenue is less than marginal cost, then

mowing one fewer lawn will increase your profit When marginal revenue is less than marginal cost, the last (or marginal) unit lowered your profit. It cost more than the revenue from selling it. So producing one fewer unit will increase profit. The prompt doesn't give enough information to determine whether total costs are greater than total revenue. Profit in this case could be negative, zero, or positive. We'd need to know about total costs -- rather than just marginal cost at one production level -- to make that determination.

Suppose that office decorations create a positive externality equal to $4 per decoration (beautiful Zoom backgrounds). Further suppose that the government offers a $3 per-decoration subsidy to producers. What is the relationship between the equilibrium quantity (after the subsidy) and the socially optimal quantity of office decorations produced?

The equilibrium quantity is less than the socially optimal quantity Drawing the graph helps to answer this question. The positive externality means that the marginal social benefit curve lies above the demand curve. The socially optimal quantity is at the intersection of the marginal social benefit curve and the supply curve. That's a greater quantity than the market equilibrium quantity before the subsidy. Since the subsidy ($3) is less than the externality ($4), the after-subsidy equilibrium quantity is still less than the social optimal quantity.

The U.S. federal minimum wage law is

a price floor that is binding in some (legal) labor markets in the United States. The minimum wage is a price floor because lower wages are prohibited. Some workers earn exactly the minimum wage and would presumably earn even less if the minimum wage law were not binding. But many occupations (e.g., attorneys) offer equilibrium wages that are well above the minimum wage, which is not binding in the markets for those occupations.

Which of the following is a good or service best characterized as being excludable and rival?

a toll road (like E-ZPass lanes) that is congested Government authorities can effectively exclude some drivers from a toll road (like E-ZPass). Sometimes authorities make all cars slow down or stop to pay, and sometimes they take pictures of license plates to send fines to people who did not pay. A congested road is rival because each additional driver slows down the other drivers.

The market for car washes has 55 identical firms. The short-run market supply is the

sum of the quantities supplied by each of the 55 individual firms at each price. This uses the definition of market supply: the horizontal sum of individual firms' supply curves. The horizontal sum adds quantities at each price, not prices at each quantity

Consider a business that has more difficulty producing additional output as its output level increases. For this business,

supply is more price elastic at low levels of output and less price elastic at high levels of output.

Suppose lima beans are an inferior good. When the price of lima beans decreases,

the income effect encourages the consumer to purchase less lima beans, and the substitution effect encourages the consumer to purchase more lima beans The substitution effect always implies more consumption of the good that got relatively cheaper, which is what happened to lima beans. A price reduction increases real income. For an inferior good like lima beans in this example, that will cause consumption to go down. So the substitution effect is positive, and the income effect is negative.

Holding other things equal, moving production from a high-cost producer to a low-cost producer will

raise total surplus. Total surplus is calculated as the sum across units of the benefits to consumers minus the costs to producers from each unit. If the same units can be made at lower cost, then total surplus will be larger. While it's true that producer surplus will likely rise, it's not also true that consumer surplus will fall as one of the options states.

When there is a glut (or surplus) of a good at the current price,

sellers are producing more than buyers wish to buy

Suppose there are two goods called A and B. I would be willing to trade any 3 units of good A for one unit of good B, no matter how many of either good I have. My indifference curves for those goods are

straight lines. The prompt describes perfect substitutes, which have straight lines as indifference curves. This is like the nickels and quarters example from class. In that example, I am willing to trade 5 nickels for 1 quarter, no matter how many nickels and quarters I have.

In the graph below, which area represents the total surplus in the market equilibrium after the tax was imposed?

AGIH The lines are not straight, but that doesn't change the analysis. Consumer surplus after the tax is ACH. Producer surplus after the tax is FGI. Tax revenue is CFIH. Together those areas are total surplus after the tax: AGIH.

Which of the following best illustrates the law of demand?

Mark buys more cookies at $0.20 per cookie than at $0.35 per cookie, other things equal.

Helen's maximum willingness to pay for a particular tattoo is $55, and its price is $85. Assuming Helen is making rational choices, her consumer surplus will be

$0, since she will not purchase the tattoo. The cost would be greater than the benefit, so a rational Helen would not make the purchase. Consumer surplus is value minus cost, and both are zero in this case

Refer to the graph below, which illustrates a firm in a perfectly competitive market. If the market price is $7, what is the firm's short-run economic profit?

$100 The first thing to determine is the quantity the firm produces. Profit maximization in the competitive market implies that the firm will set the quantity such that marginal cost equals the price. With a price of $7, the quantity will be 50. Profit can be represented as (P-ATC)q, which in this case is ($7-$5)50=$100.

WT's Bees has fixed costs of $300,000 per year (this is FC, not AFC). The firm's average variable cost is $80 for 10,000 jars of honey. At that level of output, the firm's average total costs equal

$110 Recall that ATC=AFC+AVC. Now AFC=FC/Q=$300,000/10,000=$30. Put those together with the numbers in the prompt, and ATC=$30+$80=$110

Rachel's maximum willingness to pay for a car seat is $300, and that car seat's price is $120. Rachel's consumer surplus from purchasing the car seat is

$180.

Romeo and Cesare's grocery store is currently maximizing profit in the short run with an output quantity of 200 units. The market price is $6 per unit, the marginal cost of the 200th unit is $6, and the average total cost is $5. What is Romeo and Cesare's profit?

$200 Profit can be represented as (P-ATC)q, which in this case is ($6-$5)200=$200.

If a 15% change in price results in a 30% change in quantity supplied, then the price elasticity of supply is

2, and supply is price elastic.

Acemoglu and Robinson characterize a centralized government with significant power as an inclusive institution. Which of the following best explains their reasoning?

A weak or fractured government could not resolve conflicts effectively. government is inclusive by providing a single, capable institution that can resolve conflicts and enforce settlements. A separate inclusive institution in their framework is decentralized control and coordination of economic activities, so the coordination of economic activities answer is incorrect. Forcing agreement with policies would not be very inclusive. Central governments are not always responsive to the needs of citizens; other inclusive institutions help achieve that goal.

Which of the following would most likely lead to higher prices of oranges?

An article is published in which it is claimed that tangerines cause a serious disease, and oranges and tangerines are substitutes. The article discouraging consumption of tangerines would lead to an increased demand for oranges (a substitute); that would tend to increase the oranges price. Surpluses lead to downward pressure on the price. If land prices fall, then supply of oranges will increase, which puts downward pressure on the oranges price.

This is an easy question to explain how to label areas on graphs for subsequent questions. An area on a graph will be named by the letters of points at the area's corners. So on the graph below, the shaded area is called BCD. What is the name of the shaded area on the graph below?

BCD

The graph below illustrates the market for coal. Coal production is associated with negative externalities. In addition, suppose the government subsidizes the consumption of coal. That is, the government gives consumers $5 per unit of coal that they consume. Which set of letters define the area on the graph that represents deadweight loss of the equilibrium allocation (associated with both the negative externality and the subsidy together)? HINT: Start your analysis by labeling the lines on the graph.

BFH The negative externality means that the marginal social cost curve lies above the supply curve (vertically). The subsidy for consumers means that the demand curve is shifted to the right. The socially optimal quantity Q* is at the intersection of the marginal social cost curve and the original demand curve (that measures fundamental values of consumers). But the after-subsidy equilibrium quantity Qe is at the intersection of the supply curve and the after-subsidy demand curve. The deadweight loss is the area between the marginal social cost curve and the original demand curve (marginal social benefits) between Q* and Qe.

Why do budget constraints in our class always slope downward?

Because buying more of one good reduces resources available to buy the other good. This question is about budget constraints. So options about preferences (more is better, marginal utility) will not describe the slope of a budget constraint. The budget constraint slopes downward because for a consumer spending all her income, there's an affordability trade-off: if she wants one more unit of one good, she must give up some quantity of the other good.

The graph below illustrates a budget constraint and two indifference curves. Which of the following is consistent with the graph?

Bundle B is preferred to C; bundle C is preferred to A; bundle E is preferred to B. A consumer is indifferent between two bundles on the same indifference curve. A consumer prefers a bundle on an indifference curve that's further to the northeast on the graph.

Carolina used to be a corporate attorney earning $200,000 per year, and she could have remained in that job. But instead she decided to start her own practice: she will be the owner of a new law firm. Carolina withdrew funds from her personal savings account in order to pay for the firm's operating expenses; she would have earned $3,000 in interest on those funds in the next year. In her first year in business, Carolina earns $300,000 in revenue from clients. She pays $50,000 in operating expenses like rent for her new office. Which of the following statements is correct?

Carolina's total implicit costs are $203,000. From the prompt we learn that Carolina's total revenue is $300,000. Her explicit costs are $50,000. Her implicit costs are $200,000+$3,000=$203,000. As a result, her accounting profit (revenue minus explicit costs) is $250,000. Her economic profit (revenue minus total costs) is $47,000

In this unit, we have been assuming that each supplier is a price-taker. Which of the following best explains our justification for that assumption?

Competition among suppliers will constrain the price that any individual supplier could set and stay in business. We haven't yet discussed governments intervening in markets. Prices are set by the interaction of buyers and sellers (in equilibrium), so they are not set by demanders alone. Our framework so far includes sellers competing with one another for customers, not cooperating to set prices. That last idea is called collusion, which we will study later in the semester.

The local hair stylist market is perfectively competitive. Kee sells the number of haircuts where marginal revenue equals marginal cost. The result is total revenue of $8,000, fixed costs of $1,500, and variable costs of $6,000. What should Kee's hair stylist firm do in the short run?

Continue operating the business, thus making a profit of $500. Kee is producing the profit-maximizing quantity assuming a positive quantity is better than zero. We know this because marginal revenue equals marginal cost. Her profit is positive: $8,000-$1,500-$6,000=$500. So she should continue operations.

Suppose you regularly purchase Apples, Bananas, and Carrots, and you spend your entire food budget on them. Their prices are

Decrease Apples and Bananas; Increase Carrots The optimal bundle is the one that yields equal marginal utility divided by price across the three goods. At present, that ratio is 6/2=3 for Apples, 9/3=3 for Bananas, and 16/4=4 for Carrots. So you're not maximizing utility given your budget constraint. To do so, increase consumption of Carrots, for which the utility per dollar spent ("bang for your buck") is highest. But you're spending all your budget already, so you need to spend less on Apples and Bananas in order to afford spending more on Carrots. As you buy more Carrots, the marginal utility of a carrot will fall. As you buy fewer Apples and Bananas, their marginal utilities will rise. Eventually, the ratios of marginal utility to price will be equal across the three goods, and you'll reach maximum satisfaction given your budget.

The government requires that sellers of houses pay a tax of $5,000 (per house). As a result, the market price of houses increases by $4,000. What should we conclude about the market for houses?

Demand for houses is less price-elastic than supply for houses. Drawing a graph is a good way to approach this question. The tax is on sellers, so the supply curve shifts. The price increase is greater than half the tax rate, so consumers are bearing the majority of the burden of the tax. That's consistent with demand being less price-elastic (or more inelastic) than supply. The tax revenue will be $5,000 times the number of houses sold. The quantity supplied will actually decrease because supply shifted to the left.

Andre, Becca, and Candace all enjoy the flowers in their neighborhood, where they are the only residents. Their home owners association might plant a new flower garden. Andre values the garden at $10, Becca at $15, and Candace at $20. The flowers and labor for the garden cost $50. What's the best advice to the home owners association?

Do not plant the garden because the costs outweigh the benefits. The rational policy is to do something if the benefits are greater than the costs. The garden would generate $45 worth of benefits at a cost of $50. So not planting the garden is better than planting.

Refer to Firms A and B in Table 1 in the preceding question. Suppose the government grants two pollution permits to each firm and allows them to buy and sell permits. Which of the following best describes what will happen? Table 1: Abatement costs for pollution units Firm A. Firm B Unit 1. $200. $500 Unit 2. $300. $500 Unit 3. $400. $600

Firm B will buy one permit from Firm A for a price between $300 and $500. When the government initially grants two permits to each firm, Firm A must pay $200 to abate its Unit 1, and Firm B must pay $500 to abate its Unit 1 (or Unit 2). Both firms would like to avoid that cost if possible but would need another permit to do so. Firm B would be willing to pay more, so Firm B will offer to buy a permit from Firm A. Firm B would be willing to pay as much as $500 for the permit. If Firm A sells a permit, it would be left with only one permit and would need to abate Unit 2 as well as Unit 1. The cost of abating Unit 2 is $300, so Firm A will demand at least $300 for its permit. So Firm B will buy one permit from Firm A for a price between $300 and $500.

Consider the consumption of gasoline and Netflix (online streaming entertainment). If the price of Netflix goes up, and I consume less gasoline as a result, what does consumer theory imply about gasoline

Gasoline is a normal good. The substitution effect of a Netflix price increase would be for gasoline consumption to increase. So if gasoline consumption ultimately decreases, then the income effect must be negative. That is, the price increased and thereby reduced real income, which put downward pressure on gasoline consumption. That fits the definition of a normal good: income fell and consumption decreased. We should not say that gasoline consumption was higher or lower than optimal before the price change: presumably it was optimal both before and after the price change.

Suppose my maximum willingness to pay for a new phone is equal to the price of the phone. In that case,

I am indifferent between buying the phone and not buying it. A rational consumer makes a purchase if the value is greater than the cost, because by purchasing she becomes better off. In this case, the value I would get from the phone is my maximum willingness to pay for it, and the cost of the phone is its price. Those are equal, so I'm neither better off nor worse off if I buy the phone: I'm indifferent between those options. Another way to say that is my consumer surplus is zero (not maximized). I would not spend all of my budget on the phone because there are other things that I value (and my maximum willingness to pay for the phone takes my values of other things into account).

The demand for ceramic tiles increased. What happened to producer surplus in the market for ceramic tiles?

It increased. Drawing the graph here is the best way to find the answer. The producer surplus is the area between the price line and the supply curve for all the traded units (from zero to the equilibrium quantity). Then shift the demand curve to the right. The price and quantity will both increase, which both increase producer surplus. So producer surplus increases unambiguously.

Imagine you're in the habit of baking cakes, and the recipe requires both chocolate chips and sprinkles. You notice that the price of chocolate chips has increased. How would this price increase affect your demand for sprinkles?

It would decrease.

The government requires that sellers of houses pay a tax of $5,000 (per house). As a result, the market price of houses increases by $4,000. How does the sellers' net revenue per house sold (after taxes) compare to the sellers' revenue per house sold before the tax?

Net revenue per house sold fell by $1,000. Drawing a graph is a good way to approach this question. The tax is on sellers, so the supply curve shifts. The market price increases, but the sellers have to pay the new tax. Together those imply that net revenue per unit falls. The price increases by $4,000 and the tax increases by $5,000, so net revenue per unit falls by $1,000.

Bicycles are normal goods. What will happen to the equilibrium price of bicycles if the price of bicycle helmets falls, consumers experience an increase in income, exercise becomes more popular, fewer firms manufacture bicycles, and the wages of bicycle-makers increase?

Price will rise.

Suppose Williamsburg has a privately-owned school system. All applicants are admitted, and school system revenues come from tuition and private donations. Each Williamsburg resident gets benefits from having an educated community, but private donations fell recently. Which of the following would not be correct?

Supplying education is most efficiently achieved by the private market without intervention. The prompt describes a situation with a positive externality. There is currently no government intervention. All citizens benefit from other people donating to the schools, but the free-rider problem implies that private donations will not bring about the socially optimal level of education. Government funding (from a tax increase) could do so, however. The only incorrect statement is that the private market without intervention yields the efficient (socially optimal) level of schooling.

The Social Security payroll tax requires workers (suppliers in this market) to pay 6.2 percent of their salaries and also employers (demanders in this market) to pay 6.2 percent of their workers' salaries. According to the principles we learned in this unit, which of the following is correct?

The burden (or incidence) of the Social Security payroll tax depends more on elasticities of supply and demand with respect to the wage than on who submits the payment to the government. As with all taxes, the incidence depends on elasticities of supply and demand. The Social Security tax might be fair, but that would depend on elasticities, not the 6.2/6.2 equal split between employers and workers. The tax likely creates deadweight loss and discourages hiring (by reducing overall employment).

Surgical masks were not used very widely two years ago, and few were being produced. Then last year many more people wanted surgical masks to mitigate the spread of disease. Which of the following best explains what happened in the market for surgical masks?

The demand curve for surgical masks shifted right, which created a shortage at the prior price. That put upward pressure on the price, which decreased quantity demanded and increased quantity supplied. The new market equilibrium was at a higher price and higher quantity More people wanting surgical masks is an increase of demand. The result is a shortage at the prior price, which leads to upward pressure on the price. The quantity supplied of masks certainly rises, but that's the result of the increased price induced by the increased demand

Which of the following is an accurate statement based on the consumer choice problem illustrated in the graph below?

The optimal choice of Books and Frisbees includes fewer Books and more Frisbees than point A. Point A does not illustrate an optimal consumption bundle because the indifference curve through A is not tangent to the budget constraint. That tangency condition would be at a point along the budget constraint with fewer Books and more Frisbees (that is, to the left and up).

Which of the following events would cause a movement upward and to the right along the supply curve for cucumbers?

The price of cucumbers rises. Each incorrect answer describes something that would shift the whole supply curve. The question asks for a movement along the supply curve, which is what we expect when the price of the same good (here, cucumbers) changes.

A binding price ceiling for college tuition will most likely cause which of the following?

The short-run effect will be a relatively small shortage, and the long-run effect will be a larger shortage. A binding price ceiling is below the equilibrium price, and the result is a shortage: quantity demanded is greater than quantity supplied. Elasticities are greater (in absolute value) in the long run than in the short run; another way to see that is flatter demand and supply curves in the long run. Flatter demand and supply curves increase the size of the shortage (the difference between quantity demanded and quantity supplied). The quality of college services is not likely to improve with a binding price ceiling. Suppliers overall would have little incentive to improve quality if they have plenty of demand already and couldn't charge higher tuition to compensate for the added cost of improving quality.

Selling seats in a class (that is, charging an admission fee) can be seen as efficient. Which of the following provides the best explanation?

The students who most want or need the class will have the opportunity to get into the class. class to someone who doesn't want it very much--when others want it very much-- is like wasting the seat. If they are offered for sale, the people who most want them can get them.

If there is a shortage of long-haul truck drivers, which of the following is most likely to happen?

The wage of long-haul truck drivers will increase.

For a particular good, a 2 percent price increase leads to an 8 percent lower quantity demanded. Which of the following statements best describes this good?

There are many close substitutes for this good. The quantity demanded percent change is larger than the price percent change, so we say that demand is price elastic. That's a feature of goods with many close substitutes. We associate necessities and goods that are broadly defined with price inelastic demand. Demand is also price inelastic within short time horizons (and more price elastic the longer the time horizon).

There are two business firms whose production processes make pollution. The firms want to maximize their profits. Abatement costs for their current pollution are in Table 1 below. (To "abate" means to end something.) Suppose the government decides to impose a tax of $350 per unit of pollution. Which of the following is correct? Table 1: Abatement costs for pollution units Firm A. Firm B Unit 1. $200. $500 Unit 2. $300. $500 Unit 3. $400. $600

Two units would be abated at a social abatement cost of $500. Each firm thinks at the margin and decides for each unit of pollution whether profit will be higher (costs lower) from abating that unit or not. Any unit with abatement cost below $350 will be abated in order to avoid the tax. Firm A abates its Unit 1 and Unit 2, and Firm B does not abate. So two units would be abated overall. The social abatement cost does not include the tax transfers between firms and the government ($350 for Firm A and $1,050 from Firm B). Rather, the social abatement cost comes from the costs paid by firms to abate, in this case $200+$300=$500.

Which of the following is consistent with the graph below of consumer choices for goods W and Z? (Note: the two downward-sloping straight lines are parallel to one another.)

W is a normal good and Z is an inferior good. Optimal choices are where an indifference curve is tangent to the budget constraint. When the budget constraint shifts outward -- consistent with more income -- consumption of W goes up and consumption of Z goes down. By the definitions of normal and inferior goods, that means W is a normal good and Z is an inferior good.

The allocation of a good suffers from the Tragedy of the Commons. Which of the following public policy proposals is most likely to come from an economist concerned about efficiency?

We should establish private ownership of the resource that's being depleted. Private ownership would avoid the tragedy of the commons because each owner would pay the full costs of overuse and therefore avoid overusing the resource. Taxing the owners of the resource would only discourage expansion of it, so depletion would become a more acute problem. Preventing all use of the resource is likely to come at a cost that's inefficiently high: the optimal level of use is lower than current use but very likely still positive. Reducing social benefits would be wasteful and therefore inefficient.

The following diagram shows two budget constraints: A and B. Which of the following could explain the change in the budget constraint from A to B?

a decrease in income and a decrease in the price of Daisies The way to answer this question is to draw graphs and pay attention to the intercepts. Moving from budget constraint A to budget constraint B could be achieved with several different combinations of income and price changes. The one that is also an option here is a decrease in income (parallel shift toward the origin) and a decrease in the price of Daisies (pivoting of the line to become flatter).

Which of the following is most consistent with a McDonald's restaurant taking advantage of economies of scale?

assigning a narrow set of tasks to each employee, so she or he can get very good at those tasks

The demand curve for tickets to Broadway musicals

can be derived by pivoting a consumer's budget constraint (that is, changing its slope). The demand curve is the relationship between the market price and the quantity demanded holding other things constant. This can be derived from consumer theory by changing the price and observing the changed consumption level. Changing the price in consumer theory is illustrated by pivoting the budget constraint so that its slope changes.

Tricia buys four kites. The marginal benefit she enjoys from buying (that is, consuming) the fourth kite

can be thought of as the total benefit Tricia enjoys from four kites minus the total benefit she would have enjoyed from just three kites. The correct answer comes from the definition of the marginal benefit (how much benefits increase when one more unit is consumed). That marginal benefit determines the willingness to pay for the fourth kite but not the first three. But we do expect marginal benefits to fall as units consumed increase, so marginal benefits do depend on how many kites Tricia has already bought.

Inefficient overfishing occurs because

each fisherman gets the full benefit of catching a fish but pays only a fraction of the social cost. Overfishing is a tragedy of the commons. There is a negative externality when fishermen pull fish out of the sea (other fishermen have a harder time catching fish, and the sustainability of the fish stock suffers). Since fishermen pay only a fraction of the social cost of their actions, they fish too much

In the long run, the Blackbird Bakery has total costs of $2,400 when output is 300 units and $2,800 when output is 400 units. The Blackbird Bakery experiences

economies of scale because average total cost is falling as output rises. Economies of scale means that average costs fall with an increased production level. In this example, average cost is $2,400/300=$8 at the lower production level and $2,800/400=$7 at the higher production level. So this is an example of economies of scale. Diseconomies of scale occur when average costs rise with an increased production level.

To an economist, the purpose of making assumptions is to

focus thinking on the most important features of a problem. We discussed this idea after talking about positive and normative analysis. The way economists study saving behavior is to start with the assumption that people are rational. One benefit of doing so is that the framework is simple and focuses on the essence of saving. Of course, we will observe savings behavior and then re-evaluate our assumptions as we continue our analysis. Separately, we also benefit from the simplicity that comes from assuming that business firms in a market are price-takers.

April is a non-union employee at a Volkswagen factory. Most of the employees at her factory are members of the union. The union at the Volkswagen factory negotiated very good benefits (like access to healthcare for workers). Even though she is not a union member and does not pay union membership fees, April receives those very good benefits. April's behavior is an example of

free riding This is an example of free riding. April enjoys the benefits that the union bargained for but didn't pay anything for them (as the union members did when they paid membership fees).

Olivia decides to spend two hours at her job rather than tossing a frisbee with her friends. She earns $11 per hour working at her job. Her opportunity cost of working is

he enjoyment she would have received had she tossed a frisbee "The cost of something is what you give up to get it." To get work (and the payment from it), Olivia gives up the enjoyment of frisbee.

Which of the following would be most likely to increase the equilbrium price of a car?

higher wages for auto manufucturing workers, higher steel prices, increases in consumer incomes, higher price of train tickets, increases in population, and expectations of higher car prices in the future

A price floor on blueberries

is intended to benefit sellers of blueberries, probably does benefit some sellers, probably hurts other sellers, and hurts blueberry consumers. Price floors increase prices, which is always intended to benefit sellers. Consumers clearly receive less consumer surplus with a price floor. Some sellers will actually benefit. Those are the ones who get to sell their products at the higher price

Paul owns a copy shop that operates in the competitive market for copy services in Santa Barbara, California. Paul sells 1,000 copies per day. His daily total revenue is $100. The marginal cost of making a copy is $0.05 (that is, five cents) no matter how many copies he makes. The fixed cost of Paul's business is $20. In order to maximize profits, Paul should

make more than 1,000 copies per day. Total revenue divided by quantity is the market price, which is 10 cents per copy in this example. That's above the marginal cost of production, so Paul's profits will rise if he sells more copies. He should not shut down, since his revenue ($100) is greater than his variable costs ($0.05*1,000=$50).

Uber rides and Quesadillas are normal goods. When the price of a Quesadilla falls, the substitution effect causes a

movement along the indifference curve and the consumer buys fewer Uber rides. The substitution effect always implies more consumption of the good that got relatively cheaper and less consumption of the good that got relatively more expensive. In this case, that means more Quesadillas (cheaper) and fewer Uber rides (more expensive, relative to Quesadillas). On the graph, this is a movement along the indifference curve so that real income, or satisfaction, stays the same. Shifting to a lower or higher indifference curve would represent less or more satisfaction, which is what the income effect describes, not the substitution effect.

The allocation of services in a market is inefficient when those services are

not being consumed by buyers who value the services most highly. Inefficiency is wastefulness. It would be wasteful for the service to be allocated to a consumer who places little value on the service, and not allocated to a consumer who would value it more. Total surplus would increase by swapping which of the two consumers gets the service. Inefficiency is not the same as fairness. The option about not supplying because buyers do not value the services describes a situation of efficiency (rather than inefficiency): if consumers don't value something, producing it would be wasteful.

Suppose the market for t-shirts is in a long-run competitive equilibrium. Then, demand increases for t-shirts. Our model from class implies that the t-shirt price will

rise in the short run. Some firms will enter the industry. The t-shirt price will then fall to reach the new long-run equilibrium. This is the narrative of a market demand increase with our two graphs of a representative firm and the market supply and demand. The initial demand increase would induce a shortage, so the market price rises in the short run to clear the market. The higher price leads to positive profit among competing firms. Those profits draw entrepreneurs to enter the market, which shifts the short-run supply curve to the right. The result of that is downward pressure on the price until the new equilibrium

Evrim spends all of her budget on cat posters and steak dinners. With the bundle she's consuming, Evrim estimates that her marginal utility of a cat poster is 40 and her marginal utility of a steak dinner is 40. Evrim is also a good economist (my officemate in graduate school), so she would conclude that:

she should buy more cat posters and fewer steak dinners if the price of a cat poster is $10 and the price of a steak dinner is $15 Optimal consumption implies MUposter/Pposter = MUsteak/Psteak. Evrim shouldn't make a consumption decision without knowing the prices of cat posters and steak dinners, so she can rule out the options without prices. If the prices of posters and dinners are $10 and $15, then in Evrim's case, MUposter/Pposter = 4 and MUsteak/Psteak < 4. In that case, Evrim can increase her utility by purchasing more posters (where the added utility from spending is high) and fewer dinners (smaller utility loss).

When quantity supplied increases at every possible price, we know that the supply curve has

shifted to the right.

Knowing that the demand for software is price inelastic, if all software developers voluntarily reduce the number of software licenses by 10 percent, then

software developers would experience an increase in their total revenue. Recall that when demand is price inelastic, total revenue increases when the price increases. The prompt here describes a leftward shift of the supply curve, which will raise the price in equilibrium. Given the price inelasticity of demand, the result will be higher total revenue for software developers. Consumers will buy fewer software licenses, not more. The quantity demanded will decrease, but "demand" will not.

Suppose the market for 3/8-inch Zinc Flat Washers is competitive. If producers of Washers in that market have different costs from one another, it is most likely that

some firms will earn positive economic profits in the long run. If the market is competitive, there is free entry and exit. Entry will occur if entering firms can earn a positive profit. If all firms are identical, that means entry will occur until all firms make a zero economic profit. But if some firms have lower costs than others, then the lower-cost firms can earn a positive economic profit while the last firm to enter earns a zero economic profit because of its relatively high costs.

Suppose you manage an amusement park that sells tickets for admission. You want to increase the park's revenue, and you seek advice from your board and also a consultant. The board tells you to increase the price of a ticket. The consultant tells you to reduce the price of a ticket. You realize that

the board thinks demand is price inelastic, and the consultant thinks demand is price elastic Recall that when demand is price inelastic, total revenue rises when the price is increased. Also, when demand is price elastic, total revenue rises when the price is decreased. Since the board advises increasing the price, it must think demand is price inelastic. Since the consultant advises decreasing the price, she must think demand is price elastic.

In our class, the "cost of taxation" is a result of

the lower equilibrium quantity traded after a tax The cost of taxation is deadweight loss. The reason a tax creates deadweight loss is that the after-tax market quantity is lower than the socially efficient market quantity. Trades that would mutually benefit both seller and buyer no longer happen, and that reduces total surplus. The cost of taxation is not measured by the taxes paid by consumers and/or producers; those are just transfers between parties in the society and therefore don't affect total surplus.

The breakfast cereal market is perfectly competitive, and firms are all similar to one another. Suppose Ying's breakfast cereal company is currently producing and selling an output quantity that maximizes its profits. In the short run, the price is above the company's average total cost. In the long run, Ying should expect

the market price to fall. Profit can be represented as (P-ATC)q, so the information that P>ATC implies that profits are positive in this market. So Ying should expect competing firms to enter the market. The short-run supply curve will shift to the right, and the market price will fall. When firms enter the market, Ying's company profits and optimal quantity will both get smaller.

Complete this sentence with the most accurate answer: The shaded region on the graph below is

the most that total surplus could be with a binding price floor P0. If P0 is a price ceiliing, then total surplus would be greater than the shaded region since a price ceiling at that level would not be binding. The price P0 is above the equilibrium price, so P0 can be a binding price floor. The shaded region would be the total surplus if the lowest-cost producers are those actually supplying the good. However, the binding price floor leads to a surplus (or glut), and the law prohibits the price from falling and thereby allocating production to the lowest-cost suppliers. So the total surplus could be smaller than the shaded region if some high-cost producers are trading with consumers.

In the market for windows, supply and demand are neither perfectly price inelastic or perfectly price elastic. Suppose the government currently collects a tax of $5 per window from window installers (the suppliers in the market). If the tax is reduced from $5 per window to $3 per window, then

the supply curve will shift downward (vertical) by $2, and the price paid by buyers will decrease by less than $2. The tax is on suppliers, so changing the tax shifts the supply curve. A tax reduction shifts the supply curve vertically down by the amount of the reduction. This reduces the equilibrium price. If the demand curve is not perfectly price inelastic, the price reduction will be less than $2.

The revenue to the government from a $7 per unit excise tax is

the tax rate ($7) times the number of units sold after the tax was imposed.

In class we studied a vignette about the price of snow shovels after a snowstorm. The vignette illustrated that

while the market allocation may be efficient, it is not always popular. Kahneman, Knetsch, and Thaler surveyed people about a hardstore store increasing the price of snow shovels after a snowstorm. A large majority responded that doing so would be unfair. However, raising the price is what we expect in the market equilibrium, which is efficient in the sense that it maximizes total surplus. The vignette doesn't involve price ceilings, and a price ceiling would not increase total surplus. The vignette doesn't involve a common resource (snow shovels are private goods)