Economics section II

C If the elasticities of demand and supply for water bottles are less than 1, demand and supply are both inelastic. By contrast, if the elasticities of demand and supply for pencils are greater than 1, demand and supply for pencils are both elastic. And because a tax increases deadweight loss by a greater amount when price elasticities are high, a tax on pencils would thus result in a larger deadweight loss

1. The price elasticity of both demand and supply in the market for water bottle are less than 1. In the market for pencils, the price elasticities of demand and supply are both greater than 1. A tax on both markets would a. increase Pareto efficiency in both markets b. reduce total surplus by a greater amount in the market for water bottles c. result in a larger deadweight loss in the market for pencils d. result in a larger deadweight loss in the market for water bottles e. result in excess supply in the market for pencils and water bottles

B A market with highly standardized goods and low barriers to entry is perfectly competitive. In a perfectly competitive market, producers face a horizontal demand curve, because the quantity they supply does not influence price.

10. In a market with highly standardized goods and low barriers to entry, producers face a demand curve that is a. downward sloping b. horizontal c. upward sloping d. vertical e. kinked

C Regardless of who a government's tax appears to be placed on, both consumers and producers almost always share the burden of the tax. However, they do not share the burden equally, and how much of the tax each group pays for depends on price elasticities.

11. Which of the following statements about taxes is TRUE? a. They increase market quantity and increase market price. b. They usually, but not always, increase total surplus. c. They are almost always paid for by both consumers and producers. d. They are primarily levied by federal governments. e. They allow beneficial exchanges to take place that otherwise would not.

B In monopolistic competition, products are differentiated, firms face a downward sloping demand curve, there are no barriers to entry or exit, and there is social inefficiency—so by definition, monopolistic competition does not maximize total surplus. Moreover, firms in monopolistic competition will not earn economic profit

12. All of the following statements regarding monopolistic competition are true EXCEPT a. products are not standardized b. firms can earn economic profit in the long run c. there are no barriers to entry or exit d. monopolistic competition does not maximize total surplus e. firms face a downward sloping demand curve

C The marginal cost is the cost of producing one additional output of a particular good or service. Because increasing pen production from 3 pens to 4 increases costs from $20 to $24, the marginal cost of producing the fourth pen is $4.

13. It costs $10 to produce 1 pen, $15 to produce 2 pens, $20 to produce 3 pens, and $24 to produce 4 pens. The marginal cost of producing the fourth pen is a. $6 b. $10 c. $4 d. $2 e. $8

D Collective goods are highly excludable but have a low degree of rivalry. Natural monopolies often occur in the market for collective goods because of the very low marginal costs associated with producing them.

14. Natural monopolies often occur in the market for goods that are a. not excludable but have a high degree of rivalry b. not excludable and have a low degree of rivalry c. semi-excludable and have a high degree of rivalry d. highly excludable but have a low degree of rivalry e. highly excludable and have a high degree of rivalry

B The markets of automobiles and commercial airplanes are imperfectly competitive. As a result, producers can choose market prices and therefore face a downward sloping demand curve.

15. Producers of automobiles and commercial airplanes likely face a demand curve that is a. upward sloping b. downward sloping c. kinked d. horizontal e. vertical

C Price elasticity of demand measures how responsive the quantity demanded for a particular good or service is to changes in price. In this scenario, because the quantity of bananas demanded increases by a larger percentage than the price of bananas falls, the demand for bananas is elastic

16. When the price of bananas falls by 20%, quantity of bananas demanded increases by 30%. Demand for bananas is thus a. inelastic b. perfectly elastic c. elastic d. unit elastic e. perfectly inelastic

B As more suppliers enter a market, equilibrium price and thus economic profits decrease. When economic profits are zero, entry into and exit out of the market will stop, reflecting that producers in perfect competition earn zero economic profit.

17. Entry into and exit out of a market will stop when a. accounting profit in the market is negative b. economic profit in the market is zero c. marginal cost equals marginal revenue d. accounting profit in the market is zero e. a monopoly gains full market power

A Logrolling occurs when politicians trade votes with one another, ultimately resulting in inefficient government spending.

18. One United States congressperson trades votes with another. This exchange is MOST clearly an example of a. logrolling b. cartel behavior c. corruption d. pork barrel politics e. rent seeking

B A binding price ceiling is one that is below equilibrium price and therefore affects the quantity and price in the market. In this scenario, only $20 is above the equilibrium price of $15, and so a price ceiling set at $20 would not be binding

19. The market price for carrots is $15. The government could set a binding price ceiling at all of the following prices EXCEPT a. $10 b. $20 c. $12 d. $8 e. $5

E A positive externality occurs when one person's action positively impacts someone else who does not pay for said benefit. Education is an example of a positive externality because one's education benefits society as a whole, even though people in society did not pay for that benefit

2. Why is education an example of a positive externality? a. A person's education helps them generate economic profit. b. It improves a person's health and overall well-being. c. It increases people's human capital and productivity. d. Governments usually provide education for free. e. An educated person offers benefits to society as a whole.

D Because the government's price floor is above the market price, it is binding. A binding price floor creates more quantity supplied than is demanded, which is called excess supply. Moreover, this price floor reduces total surplus and increases market inefficiency.

20. The market price for apples is $3. The government's setting a price floor at $5 would lead to a. increased government revenue b. increased total surplus c. excess demand in the market d. excess supply in the market e. a reduction in market inefficiency

C Economic profit is equal to total revenue minus economic costs, which include explicit costs as well as opportunity costs. Because Alex forgoes $100,000 of income by choosing to open up his shop, his total economic costs are $400,000, making his economic profit $100,000.

21. Alex leaves his job that paid $100,000 and opens up a butcher shop, earning $500,000 in revenue his first year. If his explicit costs are $300,000, his economic profit is a. $0 b. $900,000 c. $100,000 d. $500,000 e. $200,000

C Market definition is one of the factors that influences price elasticity of demand. The more narrowly defined a market is, the more close substitutes there are, and so the demand for that market is relatively elastic given the available substitutes.

22. In a narrowly defined market, price elasticity of demand is usually a. zero b. unit elastic c. relatively high d. relatively low e. infinitely high

C Institutions—which include markets, marriage, and social norms—organize human interactions and can be either formal or informal. Organizations serve a similar purpose but are more formal and structured.

23. Markets, marriage, and social norms are all examples of a. the economy b. culture c. institutions d. arrangements e. organizations

D A market has excess supply if the quantity supplied is greater than the quantity demanded. In this case, suppliers will lower prices until the market returns to its equilibrium price and quantity, demonstrating its natural tendency to return to market equilibrium

24. Which of the following events is MOST likely to occur if there is excess supply in a market? a. Quantity supplied increases. b. Buyers demand more goods or services. c. Suppliers raise prices. d. Suppliers lower prices. e. Buyers increase their willingness to pay.

C A competitive market will naturally drift toward a price and quantity combination known as equilibrium. At this equilibrium point, the total benefit received by producers and consumers— producer and consumer surplus—is maximized.

25. Which of the following statements about competitive market equilibrium is TRUE? a. The equilibrium price conveys important information to demanders only. b. It allows suppliers with the highest costs of supplying to supply their goods first. c. It maximizes the total benefit received by producers and consumers. d. The equilibrium price conveys important information to suppliers only. e. It is a fairly inefficient way of allocating resources in an economy.

D A production possibility frontier shows the tradeoffs one faces in producing two goods. On each axis is one of the two goods, and a downward sloping line shows possible combinations one could produce.

26. Which of the following diagrams shows the trade-off in producing two goods? a. an opportunity cost chart b. a money market graph c. supply and demand curves d. a production possibility frontier e. a market potential graph

B Smoking is an example of a negative externality because a smoker's actions negatively impact others, but others are not compensated for this negative impact. However, there is some positive value in smoking, and so the socially optimal amount of it is not zero.

27. Which of the following statements regarding smoking is FALSE? a. Smoking is an example of a negative externality. b. Eliminating smoking altogether would maximize total surplus. c. There will usually be more smoking than is socially optimal. d. There are external costs associated with smoking. e. The social cost of smoking is greater than the firm's marginal cost.

E If the domestic price of tobacco in Germany is lower than the world price, Germany will become an exporter. As a result, producer surplus increases and consumer surplus falls, providing a net increase in total surplus.

28. The world price of tobacco is $3 per pound. If the domestic price tobacco in Germany is $2 per pound, an economist would expect a. German total surplus to fall. b. German consumer surplus to increase and producer surplus to remain the same. c. German producer surplus to fall and consumer surplus to increase. d. German producer surplus to increase and consumer surplus to remain the same. e. German consumer surplus to fall and producer surplus to increase.

B Fixed costs do not depend on the quantity of pizza produced in the short run, while variable costs do. The cost of labor depends highly on how many pizzas a firm produces and can be changed in the short run, so it is a variable cost.

29. A possible variable cost in the production of pizza is a. the cost of electricity b. the cost of labor c. property tax d. the cost of machinery e. rent

B Natural monopolies occur when one firm can supply a good or service most efficiently and at a lower price than multiple firms could. This is true in the railroad industry, pipeline industry, electricity industry, and cable television industry, in part due to the high fixed costs associated with each industry

3. Which of the following industries is LEAST suitable for a natural monopoly? a. the pipeline industry b. the book industry c. the electricity industry d. the cable television industry e. the railroad industry

D In this scenario, the nearly horizontal demand curve indicates that demand is very elastic. Because demand is more elastic than supply— which is unit elastic—producers will pay for the majority of the tax, even though the government theoretically placed the tax on consumers. [

30. In the market for basketballs, the supply curve is unit elastic and the demand curve is almost horizontal. If the government imposes a tax on consumers, the tax's burden will a. primarily on consumers b. completely on consumers c. completely on producers d. primarily on producers e. roughly evenly on producers and consumers

E Joseph Schumpeter coined the term "creative destruction" to describe the way in which entrepreneurs bring innovative new products into an economy. As a result, these entrepreneurs usually earn economic profit.

31. Which of the following economists coined the term "creative destruction"? a. David Ricardo b. Michael Boskin c. Milton Friedman d. Adam Smith e. Joseph Schumpeter

D If India decides to import sugar from Mexico, domestic sugar producers in India will suffer. The domestic price of sugar will fall to the world price, making Indian sugar producers reduce the quantity they supply

32. Which of the following groups would MOST likely be hurt if India decided to import cheaper sugar from Mexico? a. the Indian government b. consumers in Mexico c. sugar producers in Mexico d. sugar producers in India e. consumers in India

E For any given supply and demand curves, there is one point—called the equilibrium point—at which the curves intersect. It is only at this point that that market is in equilibrium with respect to price and quantity.

33. Supply and demand curves intersect at the a. market point b. price point c. vertex point d. equality point e. equilibrium point

C Marginal revenue is the revenue from supplying one more unit of a good or service, while marginal cost is the cost of supplying that additional unit. Regardless of whether a firm is in perfect competition or is a monopoly, it will increase supply until marginal cost equals marginal revenue to maximize its profit.

34. Which of the following statements describes the behavior of profit-maximizing firms in perfect competition and in a monopoly? a. Both firms increase supply until total cost equals average fixed cost. b. A monopolist increases supply until average variable cost equals average revenue, while a firm in perfect competition increases supply until average fixed cost equals average revenue. c. Both firms increase supply until marginal cost equals marginal revenue. d. A monopolist increases supply until average cost equals marginal revenue, while a firm in perfect competition increases supply until marginal costs equals marginal revenue. e. A monopolist increases supply until marginal cost equals average variable cost, while a firm in perfect competition increases supply until marginal costs equals marginal revenue.

D When a government sets a binding price ceiling or floor, total surplus always decreases. Because maximized total surplus is Pareto efficient, decreasing total surplus brings an economy away from Pareto efficiency.

35. Which of the following results ALWAYS occurs when a government implements a binding price ceiling or price floor? a. Government tax revenue increases. b. Total surplus in the economy increases. c. The economy's producer surplus increases. d. The economy moves away from Pareto efficiency. e. The economy's consumer surplus increases.

D While free trade grows a country's economy, not all citizens of the country benefit equally. Trade requires a country to specialize in the production of a certain good, and so this trade actually hurts some groups or citizens within the country.

36. Which of the following statements regarding trade is FALSE? a. Free trade grows the size of an individual country's economy. b. Countries should look at absolute advantage before trading. c. Free trade increases the world economy. d. Trade usually benefits all citizens of a country. e. Many individuals and groups oppose international free trade.

C Whenever a government implements a tax, some mutually beneficial transactions can no longer happen, resulting in reduced social welfare. This reduced social welfare, represented by a triangle on the supply and demand graph, is called deadweight loss.

37. The United States government implements a tax on smartphones, leading to a reduction in total social welfare. This reduced social welfare is called a. surplus loss b. diminishing returns to scale c. deadweight loss d. lost efficiency e. Pareto reduction

A A cartel occurs when firms in an oligopoly decide to collude and act as a monopoly; thus, the five firms in the bed industry colluding makes them a cartel. Cartels are both illegal under U.S. antitrust law and inherently unstable because of firms' incentives to increase production.

38. There are only five firms in the market for mattresses. If those firms decide to collude and act as a monopoly, they are a(n) a. cartel b. oligopoly c. corporation d. conglomerate e. monopoly

E A monopoly produces at a lower quantity and higher price than a firm in competition, in the process reducing consumer surplus, earning economic profits, and decreasing social welfare. Because deadweight loss measures lost social welfare, a monopoly therefore increases deadweight loss

39. A powerful company forms a monopoly in the market for phones, which had previously been in perfect competition. All of the following results would occur EXCEPT a. a lower market quantity b. reduced consumer surplus c. economic profits d. a higher market price e. reduced deadweight loss

B Bovine Growth Hormone can increase farm production by around 10%, but it ultimately reduces farm income. Farmers nonetheless use BGH because they have no control over the market price in the perfectly competitive market, and so using BGH along with everyone else allows them to maximize their profits.

4. Bovine Growth Hormone (BGH) increases supply and lowers producers' profits. Still, farmers use BGH because a. it increases their long-run production efficiency b. whether or not they use BGH does not affect the market price c. the government subsidizes their use of BGH d. it allows the total number of farmers to increase e. there is usually a government-set price floor on their products

E The ease and entry into a market is a factor influencing the price elasticity of supply, with markets that are relatively easier to enter and exit tending to be relatively inelastic. Therefore, in this example, the price elasticity of supply is inelastic. And according to the formula for price in elasticity of supply, the price elasticity would be less than 1.

40. It is difficult for suppliers to enter and exit the market for airplane production. As a result, price elasticity of supply is MOST likely a. 1 b. infinite c. 0 d. greater than 1 e. less than 1

E If the United States and China differ in comparative advantages, each one can specialize in what they can best produce and therefore both benefit from trade with one another. This holds true even if one of the countries has an absolute advantage in the production of all goods.

41. The United States and China can both benefit from trade with each other if they a. both produce at Pareto efficiency b. differ in absolute advantages c. both produce below Pareto efficiency d. both assess no tariffs or taxes on the exchange e. differ in comparative advantages

C Diminishing returns to scale explains that as a producer adds more inputs—in this case, labor— they are able to produce less and less marginal output. Thus, Caroline experiencing diminishing returns to scale in her car factory

8. Caroline opens up a new car factory and hires workers. She notices that, as she adds more workers, they are able to produce less and less marginal output. This situation BEST exemplifies the concept of a. average variable costs b. economies of scale c. diminishing returns to scale d. diminishing marginal revenue e. marginal costs

E If the supply of windows in the window market increases, the supply curve will shift right. As a result, there is a new equilibrium point at which the supply and demand curves intersect, and equilibrium price decreases and quantity increases.

42. What will happen to the price and quantity in the window market if the supply of windows increases? a. Price will remain the same; quantity will decrease. b. Price will increase; quantity will increase. c. Price will increase; quantity will remain the same. d. Price will decrease; quantity will decrease; e. Price will decrease; quantity will increase.

A The sum of producer and consumer surplus is called total surplus, and social planners should try to maximize this total surplus. Moreover, maximizing total surplus also means achieving Pareto efficiency.

43. A social planner should try to maximize a. the sum of producer and consumer surplus b. market quantity c. government revenue d. consumer surplus e. producer surplus

B Consumer surplus represents the total surplus value consumers receive from an exchange. In this scenario, Joel and Caroline were willing to pay a combined amount $110 higher than the equilibrium price of $70, making the consumer surplus $70.

44. The market price for a chair is $70. Frank is willing to pay $50, Tom is willing to pay $70, Joel is willing to pay $100, and Caroline is willing to pay $150. What is the total consumer surplus in this situation? a. $130 b. $110 c. $180 d. $90 e. $20

D Because Ben can harvest more wheat and more corn than Sam in the same time span, he has an absolute advantage in the production of both wheat and corn. It is important to note that absolute advantage does not depend whatsoever on opportunity costs

45. In one day, Ben can harvest 40 pounds of wheat and 30 pounds of corn. Sam can harvest 50 pounds of wheat of 50 pounds of corn. Sam has a(n) a. comparative advantage in the production of corn b. absolute advantage in the production of wheat only c. absolute advantage in the production of corn only d. absolute advantage in the production of wheat and corn e. comparative advantage in the production of wheat

A Government-created monopolies are one of the three primary types of monopolies. When Allie records a copyrighted album, the government effectively gives her a monopoly over the album she created, and therefore Allie owns a government-created monopoly.

46. Allie releases an album and applies for copyright. She now has a a. government-created monopoly b. natural monopoly c. monopolistically competitive good d. recording monopsony e. monopoly created by a key resource

B Because Country B can produce 10 phones or 30 computers, its opportunity cost of producing 1 computer is 1/3 of a phone. Country C's opportunity cost of 1 computer is 4/3 phones, because it can produce 15 phones or 20 computers. Because Country B has a lower opportunity cost in the production of computers, it has a comparative advantage.

47. In one day, Country B can produce 10 phones or 30 computers, while Country C can produce 15 phones or 20 computers. Country B has a(n) a. absolute advantage in the production of phones and computers b. comparative advantage in the production of computers c. absolute advantage in the production of phones d. comparative advantage in the production of phones e. comparative advantage in the production of phones and computers

A Because there is only one supplier in the market for books, it is a monopoly. As a result, the government could use antitrust legislation to increase competition in the market for books in a similar manner to the United States government split up AT&T. [

48. To deal with a single supplier controlling the market for books, the government could use a. antitrust legislation b. price discrimination c. the Coase Theorem d. Keynesian economics e. a natural monopoly

A All point on a production possibility frontier's curve are efficient, as the economy is using all resources possible and could not produce any more of one good without reducing production of the other.

49. What points on a production possibility frontier are considered efficient? a. all points on the curve b. all points outside of the curve c. all points equidistant from both axes d. all points on either of the two axes e. all points inside of the curve

C Price discrimination occurs when a firm in an imperfectly competitive market charges prices to different customers. In perfect competition, price discrimination is impossible, as firms face a horizontal demand curve and thus cannot influence the price they charge. Out of all of the answer choices, the market for wheat is the one that is perfectly competitive, and so price discrimination in that market is impossible.

5. A firm in the market for all of the following goods could price discriminate EXCEPT a. cellphones b. hotels c. wheat d. air travel e. electricity

E At any given point, the supply curve's height indicates the opportunity cost of the marginal supplier—the supplier who would no longer sell if the price were any lower. Similarly, the demand curve's height at any point indicates the marginal buyer's willing to buy

50. At any given point, the supply curve's height indicates the opportunity cost of the a. marginal consumer b. market price c. consumer surplus d. producer surplus e. marginal supplier

D According to Coase Theorem—introduced by Ronald Coase—private parties can solve externalities as long as there are defined property rights. However, Coase Theorem does not always hold up in the real world, and so governments often have to regulate externalities.

6. Which of the following ideas holds that private parties can solve externalities, given defined property rights? a. Gibbard's Theorem b. Keynesian Law c. Okun's Law d. Coase Theorem e. Nash Equilibrium

D Price discrimination occurs when a firm in an imperfectly competitive market charges prices to different customers. Therefore, the airline offering different prices and quality of service to different customers is engaging in price discrimination.

7. An airline offering different prices and quality of service—business class and luxury class, for example—to different customers is MOST clearly engaging in a. class discrimination b. cartel discrimination c. monopolistic discrimination d. price discrimination e. oligopoly discrimination 8. Caroline opens up a new car fact

A Collective goods are highly excludable but not rival in consumption, meaning that the good's producer can exclude people from consuming the good, but that one's consumption of the good does not reduce the amount available to others. Cable television is thus a collective good: the cable company charges money for its service and therefore can exclude people from watching it, but the number of people using the same cable service does affect others' ability to use it.

9. Which of the following goods is a collective good? a. cable television b. ice cream c. a car d. fish in the ocean e. street lighting