Econ

Which of the following is definitely true for a per-unit tax in the goods market where neither demand nor supply is perfectly inelastic:

A demand become more price inelastic, the after tax price for consumers rises. Since there are potentially income effects that mask substitution effects, (a) is not necessarily true. As supply becomes more price inelastic, deadweight loss will fall. But as demand becomes more price inelastic, consumers will pay higher prices because the incidence of a tax is determined by uncompensated demand (relative to supply).

The following changes in a consumer's economic circumstances result in a steeper budget line with the vertical intercept unchanged. (Denote the good on the horizontal as good 1 and the good on the vertical as good 2.)

A k percent decrease in the price of good 2 combined with a k percent decrease in income A decrease in the price of good 2 causes the slope to become steeper, and a decrease in income shifts the budget line inward. Together, these imply that the budget line rotates inward with the vertical intercept fixed --- just as it would if the price of good 1 increases by itself.

You like bundle A better than bundle B, and bundle C is an average of bundles A and B. Which of the following is correct if your tastes satisfy our usual assumptions?

Bundle C is at least as good as bundle B. If we removed some of each good from bundle A, continuity implies we'll eventually get to a bundle A' that is indifferent to B. The average of A' and B -- denoted C' -- is at least as good as B (due to convexity). But C has more of everything than C' --- which must mean that C is preferred to B. Thus, answer (a) is correct. Bundle A, however, might be worse than C, as illustrated in the graph below.

Bundle A is worse than bundle B, and bundle C is an average of bundles A and B. Then our usual assumptions about tastes imply that bundle B is at least as good as bundle C.

False

You have observed a consumer who purchases only goods x1 and x2 and have concluded that the consumer's tastes are quasilinear in x2 . Whether the consumer purchases more or less of x1 when the price of x1 falls then depends on the size of the substitution effect.

False

For choice sets generated from endowment bundles, the budget line will shift parallel if both prices change by the same proportion.

False The slope of the budget remains unchanged --- as does the endowment bundle. Since the budget line always has to pass through the endowment bundle, an simultaneous and proportionate increase in both prices will cause no change in the budget constraint.

A change in the price of one good cannot leave utility unchanged unless the price change is accompanies by a change in income.

False There are several types of counterexamples to this. For instance, it a consumer consumes at a corner solution and the price of the good that is not consumed increases, the consumer's utility is unchanged. Or, if a consumer consumes at an interior solution, an increase in the price of one good could be accompanied by a decrease in the price of the other good such that the consumer's utility remains unchanged.

In a graph of choice sets, a price change affects the ratio but does not affect the budget line.

False A price change will cause the slope of a budget line to change.

Cobb-Douglas production function have decreasing returns to scale.

False Cobb-Douglas production functions have increasing returns to scale if the exponents on the inputs sum to something greater than 1.

Economists define "rational" tastes as those which are objective and transitive.

False Economists define "rational" tastes as those which satisfy both completeness and transitivity.

If the individuals in a group of consumers all have homothetic tastes, then we can treat the group as a single representative consumer.

False If individuals have homothetic tastes, it means that each individual will remain on the same ray from the origin as income changes. But different individuals might optimize on different rays from the origin (and still all have homothetic tastes) -- in which case the change in their consumption as income is redistributed is not offsetting.

If not all goods are essential, a consumer will end up optimizing at a corner solution.

False If not all goods are essential, a consumer might end up optimizing at a corner solution --- but she might also optimize at an interior solution, as illustrated in this graph.

In the one-input model, the marginal cost curve is U-shaped.

False If the production frontier has diminishing slope throughout, then the marginal cost curve is upward sloping throughout.

Aggregate producer surplus in an industry can be measured along the market supply curve in the short run but not in the long run.

False It can be measured along the long run market supply curve in the long run.

Two rationality assumptions economists make about tastes are first, that some individuals are not able to compare any two bundles of goods to one another, and second, that there is an internal consistency to tastes that makes it possible to choose a "best" bundle.

False It is true that one fundamental assumption economists make about tastes is that there is an internal consistency to tastes that makes it possible for one to choose a "best" bundle (transitivity), but it is not correct that the other fundamental assumption is that some people cannot compare bundles. On the contrary, the assumption is that everyone CAN compare two bundles (completeness).

It is not sufficient for profit maximization that a production plan has all marginal revenue products equal to input prices -- because it must also be the case that the (marginal) technical rate of substitution is equal to the ratio of input prices (in absolute value).

False Marginal revenue product being equal to input prices implies that the technical rate of transformation (which is equal to the ratio of marginal products) is equal (in absolute value) to the ratio of input prices.

If you observe me choosing bundle A over bundle B on Monday, bundle B over bundle C on Tuesday and bundle C over bundle A on Wednesday, it must be that my tastes violate transitivity.

False Not necessarily --- it might be that I am indifferent between the three bundles. (It might also be that my tastes include a taste for variety over the course of the week.)

A policy which gains the winners more than the losers lose, in principle, could never result in unanimous approval of the policy.

False One way to think about welfare effects from policy changes is that if the winners gain more than the losers lose, and compensate the losers, it is possible, in principle, that there would be unanimous approval of the policy.

Both successful market-processes ​and central planning rely on self-interested behavior.

False Only successful market processes rely on self-interested behavior. Central planning typically relies on a planner, presuming benevolence on the part of the planner.

Price subsidies have no deadweight losses so long as the (uncompensated) demand curve is vertical.

False Price subsidies have no deadweight losses so long as the compensated demand curve is vertical.

The output level is constant along any isoprofit line.

False Profit is constant along isoprofit lines.

Quasiconcave production functions give rise to convex producer choice sets.

False Quasiconcave production functions give rise to convex upper contour sets of isoquants -- but not necessarily to convex producer choice sets.

Homothetic tastes are always tastes over essential goods.

False Tastes for perfect substitutes are homothetic -- but neither good is essential in that case.

Goods with small substitution effects tend to be normal goods.

False The definition of normal goods relates to income effects, not substitution effects. Normal goods can have large or small substitution effects.

Consider the utility function . If , the elasticity of substitution is equal to .

False The elasticity of substitution for CES utility functions is --- thus the elasticity of substitution in this case is .

If supply is perfectly elastic in a consumer goods market, a per unit tax will always be inefficient unless the market demand curve for consumers is perfectly inelastic.

False The perfect elasticity of the supply curve implies the tax will be passed to consumers. But if there is no substitution effect (as in the case of perfect complements), the tax will be efficient even if the market demand curve is downward sloping because of income effects.

When the good on the vertical axis is a composite good, the slope of the budget line is equal to minus the price of the good on the horizontal axis.

False The price of composite goods is 1 --- which means that the usual slope -p1/p2 becomes -p1.

If a person's compensated demand (or MWTP) curve is perfectly vertical, the good is borderline between regular inferior and Giffen for this consumer.

False The statement is true for uncompensated demand curves. Compensated demand curves slope down so long as there is a substitution effect.

If income effects are sufficiently strong, it may be the case that labor demand curves slope up.

False There are no income effects in the producer model -- and thus no vehicle for demand curves to slope up as they do for Giffen goods in the consumer model.

An increase in the wage will cause the output supply curve in the one-input model to shift in unless labor is an inferior input.

False There is no such thing as an "inferior input" because there are no such things as income effects in producer models. An increase in the wage will always cause supply curves to shift in.

Goods like exclusive designer clothes carry with them prestige value linked to their price. As a result, some people demand more of such goods as the price increases. For those people, such goods are Giffen goods.

False These are luxury goods that are composed of both the physical good as well as the prestige value associated with it. When price increases prestige value, the nature of the good changes when price increases -- but the good itself is still a normal good in the sense that, were the prestige value to stay constant, an increase in price leads to less quantity demanded.

Profit functions are homogeneous of degree zero.

False They are homogeneous of degree 1

Tastes for perfect complements are both homothetic and quasilinear.

False They are not quasilinear.

When the price of peaches went up, people bought fewer peaches and more strawberries. This is an indication that tastes have changed as a result of the price increase.

False This is an indication the optimal quantity demanded has changed as a result of the increase in price --- and the optimal quantity demanded results from tastes confronting economic circumstances. The change in the price of peaches is a change in circumstances --- which in turn affects demand, not a change in tastes.

There are no quasilinear tastes that have constant elasticity of substitution.

False This is false --- perfect substitutes are quasilinear (in both goods) and have constant elasticity of substitution equal to infinity.

In the one-input model, profit is always maximized where marginal revenue product is equal to the input price.

False This is only true if the true profit-maximizing production plan is at an "interior" solution. But, if the producer choice set is non-convex, the profit maximizing plan might involve no production (or infinite production) -- and in those cases, marginal revenue product is not equal to input price.

Absent any violations of the first welfare theorem, the competitive market production level of a good will be the same as that chosen by a social planner whose goal includes (but is not necessarily limited to) efficiency.

False This is only true when tastes are quasilinear. If they are not, then a social planner might wish to redistribute income -- which would imply market demand and aggregate MWTP curves would shift.

Unless a good is a Giffen good, the demand curve shifts to the right as income rises.

False Unless the good is an inferior good, the demand curve shifts to the right as income rises.

The consumer-side deadweight loss from a per-unit tax in the goods market arises from solely from the fact that output falls under the tax.

False When goods are perfect complements, there is no deadweight loss on the consumer side despite the fact that output falls under the tax.

When own-price elasticity lies between 0 and -1, consumer spending decreases when price increases.

False When own-price elasticity lies between 0 and -1, demand is relatively unresponsive to price -- which implies that consumer spending increases when price increases.

When two goods are perfect substitutes, averages are better than extremes, resulting a diminishing marginal rate of substitution.

False When two goods are perfect substitutes, averages are valued the same as extremes, resulting in a constant indifference curve, giving us constant rather than diminishing marginal rates of substitution.

Whenever average cost is increasing, marginal cost must also be increasing.

False Whenever average cost is increasing, marginal cost must lie above average cost -- but it does not have to be increasing.

If all consumers are price-takers facing the same prices, then all choice sets are the same.

False While the slopes of the budget constraints will be the same for all consumers, the choice sets will differ depending on each consumer's income.

Suppose a consumer has the following rule of thumb: Regardless of how gasoline prices fluctuate, she will always buy $20 of gasoline per week and then adjust her driving patterns accordingly. We can then conclude the following:

Her own-price elasticity of demand is equal to -1. When consumers spending does not change as price changes, the price elasticity is -1. An income elasticity of zero would imply that gasoline is a quasilinear good, and an income elasticity of -1 would mean gasoline is an inferior good. Nothing in the question suggests that either is the case.

Which of the following is correct about a consumer's optimization problem:

In order for a consumer to not be optimizing at a corner solution, it is necessary for us to assume that all goods are essential. Correct: In order for a consumer to not be optimizing at a corner solution, it is sufficient for us to assume that all goods are essential. In order for a consumer to not be optimizing at a corner solution, it is necessary and sufficient for us to assume that all goods are essential. None of the above.

You and I both have homothetic tastes. When the price of peaches goes up, you buy more strawberries and I buy fewer. Which of the following must be true.

Peaches are more substitutable with strawberries for you than they are for me. When tastes are homothetic, all goods are normal. Thus, (c) and (d) must be false.

Which of the following is true about competitive equilibria in environments where the conditions of the first welfare theorem are satisfied?

Producer surplus is zero in the long run when all firms share the same technology. The theorem holds regardless of the form taken by individual tastes --- even though market demand cannot be treated as if it emerged from a single consumer unless we can represent consumers by a representative consumer. Consumer surplus is larger than what would be estimated by the market demand curve when goods are normal (see Graph 15.8 in the text). When all firms share the same technology, they all have the same cost curves --- and thus all make zero profit in long run equilibrium.

Suppose the government spends the same for a particular consumer under two different policies: One subsidizes the price of good x while the other is a lump sum subsidy. Which of the following is true.

The consumer will spend the same on x under the two policy if and only if her indifference curves are kinked.

Suppose that you know a good is a normal good for a consumer. Which of the following can you then conclude to be true:

The income elasticity of demand is greater than 0. For normal goods, an increase in income leads to an increase in consumption -- implying a positive income elasticity of demand. But that does not tell us how responsive demand is to price -- only that the own-price elasticity is less than 0.

Which of the following must be true about functions in the duality picture:

The utility function is homogeneous of degree 1. The indirect utility function is homogeneous of degree 1 in income. The uncompensated demand functions are homogeneous of degree 1. ALL FALSE There is no reason to think either utility or indirect utility functions have to be homogeneous. The uncompensated demand curves are homogeneous of degree zero.

Demand curves with constant slopes must have different own-price elasticities as one moves along the demand curve.

True

For price-taking producers, isoprofit curves are always parallel to one another.

True

Production technologies A and B can have the same-shaped isoquant map, with technology A having decreasing returns to scale and technology B having increasing returns to scale.

True

The burden of a per-unit tax will fall disproportionately on consumers when the supply curve is relatively more elastic than the demand curve.

True

The price of peaches goes up and I observe you buying fewer strawberries. This implies strawberries must be a normal good.

True

Ellie and Jenny both brought grapes and crackers in their school lunches. If they have different marginal rates of substitution of grapes for crackers, their parents have not allocated lunch resources efficiently.

True If they both have some of each, then efficiency requires their MRS to be the same --- otherwise they can trade and make each other better off.

Assuming the same sized substitution effect, normal goods have steeper cross-price demand curves than inferior goods.

True If x1 were quasilinear, bundle C would appear right above bundle B in the graph. If it is normal, C will lie to the right of B, and if it is inferior, it will lie to the left of B.

Every luxury good is a normal good but not every normal good is a luxury.

True Luxuries are goods whose consumption increases with income by a bigger percentage than income --- so they are normal goods (whose consumption moves in the same direction as income). But a good whose consumption increases with income at a rate less than income is still a normal good without being a luxury good.

Suppose tastes satisfy our usual assumptions. Kinks in budget constraints do not give rise to the possibility of multiple solutions unless the kinds produce a non-convexity in the choice set.

True Multiple solutions can only arise from non-convexities --- and if tastes are convex, it must be that the non-convexity is in the choice set. But not all kinks produce non-convexities -- only inward pointing kinks.

Quasilinear goods are borderline goods between the set of normal and the set of inferior goods.

True A quasilinear good is a good whose consumption remains unchanged with changes in income --- whereas an inferior good is a good whose consumption moves in the direction opposite to income and a normal good is a good whose consumption moves in the same direction as income.

A spontaneous order emerges from individual decisions that cause something to "work" without anyone planning for it to "work".

True A spontaneous order is an order that is unplanned but simply arises from individuals doing the best they can given their circumstances. One example of this is the provision of complex goods and services in the market where thousands of individuals participate in the creation of something without most of them being aware that this is what they are doing.

Output prices are irrelevant for a firm as it is calculating its cost curves.

True All that matters for costs are input prices.

If tastes are homothetic, there exists a utility function that represents those tastes and that gives rise to an expenditure function which is homogeneous of degree 1 in utility.

True An expenditure function that is homogeneous of degree 1 in utility is one that says we can increase utility by a factor k if we increase spending by a factor k. If tastes are homothetic, we know that all optimal bundles lie on the same ray from the origin as long as prices remain unchanged -- which means the statement must in fact be true.

Output supply curves always slope up in the one-input model.

True As price increases, price-taking producers will produce at least as much as they did before.

Suppose demand has price elasticity of 1 everywhere and the industry is perfectly competitive with identical firms. In the long run, tax revenue increases as tax rates increase.

True Consumer spending is always the same if price elasticity is 1, and the long run supply curve is perfectly elastic -- implying taxes will be fully passed onto consumers in the long run. As tax rates rise, consumer prices rise but spending remains constant as consumers purchase less. This implies a smaller share of spending goes to producers and an increasing share is collected as tax revenue.

Positive economics can tell us which policies are efficient and which are not.

True Efficiency is an objectively defined concept: A situation is efficient if there is no way to make some people better off without making others worse off. To say that one situation is more efficient than another is not a normative statement --- even if often people think it is the same as saying that one situation is better than another.

The wage elasticity of labor demand is always negative.

True Firm labor demand always slopes down -- implying a negative wage elasticity of labor demand.

If tastes are homothetic, there exists a utility function (that represents those tastes) such that the indirect utility function is homogeneous of degree 1 in income.

True Homothetic tastes are such that all optimal bundles like on the same ray from the origin if prices remain unchanged. Thus, I can increase income by a factor k and know that the optimal bundle will by increased by a factor k. If the labeling of the indifference curves is then such that increasing a bundle by a factor k leads to k times as much utility, we have a utility function that makes this true. (This utility function would be homogeneous of degree 1.)

Labor demand curves are homogeneous of degree zero.

True If a labor demand curve is l(w,p) homogeneous of degree zero, it means that In other words, if wages and prices increase by the same proportion, labor demand remains unchanged. The slope of isoprofits is (w/p) -- so the slope does not change as both w and p increase by the same proportion -- which means the profit maximizing production plan has not changed.

Cost functions must be homogeneous of degree 1 in (input and output) prices.

True If all (input and output) prices go up by the same proportion, costs must be going up by the same proportion.

Conditional input demands are homogeneous of degree zero in input prices.

True If all input prices go up (or down) by the same percentage, the isocost slopes do not change -- which means the cost minimizing input bundles remain the same.

As demand and supply become more elastic, taxes reduce market output more and raise less tax revenue. ​

True If consumers and producers are very responsible to price changes, their large response to a tax will undermine efforts to raise revenue.

If two individuals voluntarily agree to a transaction that only affects them (and no one else), it must be that the transaction is efficient.

True If the two individuals agree voluntarily, then they must both believe the transaction makes them better off (or at least no worse off). If the transaction furthermore affects no one else, it means that the transaction has improved some people's (perceived) welfare without making anyone worse off.

In one-input models, all technologically efficient production plans are economically efficient and vice versa.

True In one-input models, there is only one way of producing a given level of output without wasting inputs. This is technologically efficient -- and it is also economically efficient.

Worker surplus can be measured as an area on the market labor supply curve if worker tastes are quasilinear in leisure.

True In this case, the compensated labor supply curve is the same as the uncompensated labor supply curve.

​Each economic model can be applied to many different real-world problems.

True Once you become really comfortable with the way economists model behavior, it all really boils down to one single model, or at least one single conceptual approach.

Profit is constant along an isoquant.

True Output is constant along an isoquant.

Regardless of how price elastic labor demand curves are, employers are unaffected by wage taxes if labor supply is perfectly inelastic.

True Perfectly inelastic labor supply implies wage taxes are passed on entirely to workers -- leaving employers paying the same wage as before a tax is imposed.

An increasing returns to scale production function could be quasiconcave.

True Quasiconcavity just implies that upper contour sets of isoquants are convex -- and it is certainly possible to have regularly shaped isoquants but increasing returns to scale.

If consumer tastes are quasilinear -- and ignoring the possibility of corner solutions and violations of the conditions of the first welfare theorem, the competitive market production level of the quasilinear good will be the same as that chosen by a social planner whose goal includes (but is not necessarily limited to) efficiency.

True Regardless of how income is redistributed, the overall quantity of the quasilinear good that is demand remains the same and can be measured along a demand curve that arises from the decisions of a representative consumer with quasilinear tastes. Thus, the market demand curve is the same as the aggregate MWTP curve and does not change as income is redistributed. So, even if the social planner wishes to redistribute income for equity reasons, efficiency will always dictate the same level of output in the quasilinear market.

If tastes are Cobb-Douglas, they can be represented by a utility function that is homogeneous of degree k where k can take on any positive value.

True The Cobb-Douglas utility function is homogeneous of degree . Since we can take a utility function to any power an retain the same underlying indifference curves, we can represent Cobb-Douglas indifference curves with a function that is homogeneous of any degree.

Tastes for perfect substitutes are both homothetic and quasilinear.

True The MRS for such tastes is the same everywhere --- which implies it is the same along any ray from the origin (required for homotheticity) and along any vertical or horizontal ray (implying quasilinearity in both goods).

​The budget line on a graph represents choices which exhaust all resources.

True The budget line represents all combinations of goods that, if chosen by a particular consumer would leave no money in his or her budget.

If the marginal rate of substitution is not diminishing, it must mean that tastes violate convexity (assuming that our other assumptions about tastes hold).

True The diminishing MRS feature of indifference maps is identical to the convexity assumption when our other assumptions about tastes hold.

Suppose the conditions of the first welfare theorem hold. If the government redistributes income prior to production and trade occurring, the market outcome (resulting from production and trade) will be efficient so long as no deadweight loss is produced in the levying of redistributive taxation.

True The first welfare theorem holds for any initial distribution of income -- so if the government achieves a new distribution of income before letting markets work, and if it does so without generating a deadweight loss, then the equilibrium is efficient.

Suppose tastes are NOT monotonic anywhere. Then diminishing MRS is not consistent with convexity of tastes.

True The indifference curve below has diminishing MRS, with bundles A and B both lying on the indifference curve. Bundle C is the average of A and B --- but it lies in the less preferred region given that less is better when monotonicity is violated everywhere.Thus, averages are worse than extremes (i.e. convexity is violated) when we have diminishing MRS

In the one-input model, the marginal product of labor curve falls below the horizontal axis only if the production frontier slopes down.

True The marginal product of labor is the slope of the production frontier. The only way the marginal product of labor curve can become negative is therefore for the production frontier to slope down.

Regardless of how price inelastic the supply curve, tax revenue from a per-unit tax rises the more price inelastic the demand curve is.

True The more price inelastic either curve, the more tax revenue will be raised because the smaller will be the reduction in the quantity transacted.

We have worked a lot with homothetic production technologies. Suppose instead that a production process that uses capital and labor is quasilinear in capital and that capital is fixed in the short run. Then, assuming the firm currently profit maximizes at a given wage and rental rate, the short and long run slices of the production frontier are identical.

True The quasilinearity of capital implies that the TRS is constant along horizontal lines in our usual isoquant graph. In the short run, we are restricted to such horizontal lines because capital is fixed in the short run.

Deadweight loss from the imposition of a price floor increases as consumer demand becomes more price elastic.

True This is because greater consumer responsiveness results in a greater reduction in the quantity demanded.

When price elasticity is less than -1, consumer spending increases as price falls.

True This is the case where consumers are relatively responsive to changes in price -- which implies they will buy sufficiently more as price falls to cause consumer spending to increase.

Assuming an interior solution, a production plan is profit maximizing if and only if all marginal revenue products are equal to input prices.

True This is the condition that must hold for isoprofit planes to be tangent to production frontiers.

A downward sloping income-demand curve indicates that the good is a necessity.

True To be more precise, it indicates that a good is an inferior good -- but all inferior goods are necessities, and thus the statement is true.

If all goods are essential, a consumer will optimize at an interior solution.

True When all goods are essential, no indifference curve crosses any axis --- which means no optimum can ever occur on an axis.

If a consumer's demand curve as constant own-price elasticity of -2, the consumer's spending will fall as price increases.

True When demand is relatively price elastic (as it is for own-price elasticities below -1), an increase in price causes a sufficient response in the quantity demanded such that spending falls.

When tastes are not quasilinear, the positive economist will introduce error into the analysis if he uses the uncompensated (rather than the compensated) demand curve to analyze changes in consumer surplus.

True While behavior is accurately predicted using the (uncompensated) demand curve, consumer welfare is accurately measured along MWTP or compensated demand curves.

Which of the following is true about an increase of a per-unit tax in a goods market where the good is quasilinear assuming neither supply nor demand is perfectly inelastic:

a) The more price elastic either demand or supply, the lower will be tax revenue. b) The more price elastic either demand or supply, the greater will be deadweight loss. c) The higher the tax rate, the greater the fraction of deadweight loss over revenue. ALL TRUE

Price taking producers make zero economic profit when price falls

at the lowest point of the average cost curve at the point where marginal cost crosses average cost The lowest point of the average cost curve is the same as the point where the marginal cost curve crosses average cost. Revenue is px and cost is x(AC) -- and if p=AC, this implies that profit is zero.

Suppose a single-input production function has initially increasing but eventually decreasing marginal product. In this case, the first order condition for the profit maximization problem

is neither necessary nor sufficient for identifying the profit maximizing production plan. A corner solution involving zero output may be optimal -- and at that corner solution, the first order condition does not hold.

Suppose inflation comes in the form of an across-the board increase in all prices by some percentage k. For a consumer with exogenous income operating in a 2-good world, this will cause the budget constraint to

shift inward in a parallel way Since the slope of the budget is the price ratio, and since both prices increased by the same proportion, the slope is unchanged --- but the same level of exogenous income now buys less.