Microecon Exam 2 Questions

The Laffer curve illustrates that, in some circumstances, the government can reduce a tax on a good and increase the A) deadweight loss B) government's tax revenue C) equilibrium quantity D) price paid by consumers

B) government's tax revenue The Laffer curve shows the relationship between the tax on a good and the amount of government tax revenue received. In some instances, as the size of a tax increases, tax revenue grows. But as the size of the tax increases further, tax revenue falls because the higher tax drastically reduces the size of the market. See Section: Deadweight Loss and Tax Revenue as Taxes Vary.

Which of the following is an example of a public good A) residential housing B) national defense C) restaurant meals D) fish in the ocean

B) national defense Public goods are neither excludable nor rival in consumption. Once the country is defended, it is impossible to prevent anyone in the country from enjoying the benefit of this defense. Moreover, when one person enjoys the benefit of national defense, that person does not reduce the benefit to anyone else. Thus, national defense is neither excludable nor rival in consumption. See Section: Some Important Public Goods.

An Efficient allocation of recourses maximizes A) consumer surplus B) producer surplus C) consumer surplus plus producer surplus D) consumer surplus minimum producer surplus

C) consumer surplus plus producer surplus If an allocation of resources maximizes total surplus, we say that the allocation exhibits efficiency. If an allocation is not efficient, then some of the potential gains from trade among buyers and sellers are not being realized. For example, an allocation is inefficient if a good is not being produced by the sellers with lowest cost. In this case, moving production from a high-cost producer to a low-cost producer will lower the total cost to sellers and raise total surplus. Similarly, an allocation is inefficient if a good is not being consumed by the buyers who value it most highly. In this case, moving consumption of the good from a buyer with a low valuation to a buyer with a high valuation will raise total surplus.

Raj opens up a lemonade stand for two hours. He spends $10 for ingredients and sells $60 worth of lemonade. In the same two hours, he could have mowed his neighbor's lawn for $40. Raj has an accounting profit of ____ and an economic profit of ____ A) $50, $10 B) $90, $50 C) $10, $50 D) $50, $90

A) $50, $10 An accountant measures the firm's accounting profit as the firm's total revenue minus only the firm's explicit costs. In this example, revenue is equal to the $60 from selling lemonade, and explicit costs are the $10 in ingredients; therefore, accounting profit is . An economist measures a firm's economic profit as the firm's total revenue minus all the opportunity costs (explicit and implicit) of producing the goods and services sold. The $40 Raj could have earned mowing his neighbor's lawn is an opportunity cost. Economic profit takes this cost into consideration as well and is only . See Section: Economic Profit versus Accounting Profit.

Jen values her time at $60 an hour. She spends 2 hours giving Colleen a massage. Colleen was willing to pay as much as $300 for the massage, but they negotiate a price of $200. In this transaction, A) Consumer surplus is $20 larger than producer surplus B) Consumer surplus is $40 larger than producer surplus C) Producer surplus is $20 larger than consumer surplus D) Producer surplus is $40 larger than consumer surplus

A) Consumer surplus is $20 larger than producer surplus Consumer surplis is the amount a buyer is willing to pay for a good minus the amount the buyer actually pays for it. In this case, Colleen was willing to pay $300 for a massage but it cost her only $200, so consumer surplus is $300-$200= $100. Producer surplus is the amount a seller is paid minus the cost of production. In this case, Jen's cost of production is 2 hours x $60 per hour =120 and she gets paid $200, so producer surplus is $200-$120= $80. Therefore, consumer surplus is $20 larger than producer surplus. See Sections: Willingness to Pay; and Cost and the Willingness to sell

Which categories of goods are excludable? A) Private goods and club goods B) Private goods and common resources C) Public goods and club goods D) Public goods and common resources

A) Private goods and club goods A good is excludable if people can be prevented from using it. Private goods and club goods are excludable, while common resources and public goods are not excludable. See Section: The Different Kinds of Goods.

If a higher level of production allows workers to specialize in particular tasks, a firm will likely exhibit ________ of scale and ________ average total cost. A) economies, faling B) economies, rising C) diseconomies, falling D) diseconomies, rising

A) economies, faling If a higher level of production allows workers to specialize in particular tasks, then the greater the level of output, the lower the average total cost will be. When long-run average total cost declines as output increases, there are said to be economies of scale, as average total cost falls with rising output. See Section: Economies and Diseconomies of Scale.

Which categories of goods are rival in consumption A) Private goods and club goods B) Private goods and common resources C) Public goods and club goods D) Public goods and common resources

B) Private goods and common resources A good is rival in consumption if one person's use of the good reduces another person's ability to use it. Private goods and common resources are rival in consumption, while public goods and club goods are not. See Section: The Different Kinds of Goods.

Peanut butter has an upward-slopping supply curve and a downward-sloping demand curve. If a 10 cent per pound tax is increased to 15 cents, the government's tax revenue A) increases by less than 50% and even decline B) increases by exactly 50% C) increases by more than 50% D) the answer depends on whether supply or demand is more elastic

A) increases by less than 50% and may even decline The government's tax revenue is the size of the tax times the amount of the good sold. Graphically, tax revenue equals the area of the rectangle formed by the tax wedge between the supply and demand curves. Recall that the area of a rectangle is width times length; in this case the width is the amount of the tax and the length is the quantity sold. When a tax increases from 10 cents to 15 cents per pound, this means the width of the rectangle increases by 50 percent. However, because demand is downward sloping and supply is upward sloping, the length of this rectangle also decreases. Therefore, the overall area of the rectangle increases by less than 50 percent and may even decline if the decrease in length more than offsets the increase in width. See Section: Deadweight Loss and Tax Revenue as Taxes Vary.

When the government levies a tax on a good equal to the external cost associated with the good's production, it ________ the price paid by consumers and makes the market outcome ________ efficient. A) increases, more B) increases, less C) decreases, more D) decreases, less

A) increases, more When the government levies a corrective tax in the presence of a negative externality, it increases the price paid by consumers. Although many kinds of taxes distort the market in a negative way, corrective taxes alter incentives that market participants face to account for the presence of externalities and, thereby, move the allocation of resources closer to the social optimum. Thus, while corrective taxes raise revenue for the government, they also enhance economic efficiency. See Section: Market-Based Policy 1: Corrective Taxes and Subsidies.

The demand curve for cookies is downward sloping. When the price of cookies is $2, the quantity demanded is 100. If the price rises to $3, what happens to consumer surplus? A) it falls by less than $100 B) it falls by more than $100 C) It rises by less than $100 D) it rises by more than $100

A) it falls by less than $100 Because the demand curve reflects buyers' willingness to pay, the area below the demand curve and above the price measures the consumer surplus in a market. If the price of cookies rises by $1, you might be tempted to say that consumer surplus falls by $1 per cookie x 100 cookies= $100. However, demand is downward sloping, so an increase in price means a decrease in the quantity demanded. Therefore, consumer surplus must fall by less than $100.

If a policymaker wants to raise revenue by taxing goods while minimizing the deadweight losses, he should look for goods with ________ elasticities of demand and ________ elasticities of supply. A) small, small B) small, large C) large, small D) large, large

A) small, small A tax has a deadweight loss because it induces buyers and sellers to change their behavior. The tax raises the price paid by buyers, so they consume less. At the same time, the tax lowers the price received by sellers, so they produce less. Because of these changes in behavior, the equilibrium quantity in the market shrinks below the optimal quantity. The more responsive buyers and sellers are to changes in the price, the more the equilibrium quantity shrinks. Hence, the greater the elasticities of supply and demand, the greater the deadweight loss of a tax. So the policymaker should look for goods with as little elasticity as possible, in both supply and demand. See Section: The Determinants of the Deadweight Loss.

a tax on a good has a deadweight loss if A) the reduction in consumer and producer surplus is greater than the tax revenue B) the tax revenue is greater than the reduction in consumer and producer surplus C) the reduction in consumer surplus is greater than the reduction in producer surplus D) the reduction in producer surplus is greater than the reduction in consumer surplus

A) the reduction in consumer and producer surplus is greater than the tax revenue The fall in total surplus that results when a tax (or some other policy) distorts a market outcome is called a deadweight loss. Taxes cause deadweight losses because they prevent buyers and sellers from realizing some of the gains from trade. Therefore, a tax on a good has deadweight loss if the reduction in consumer and producer surplus is greater than the tax revenue. See Section: Deadweight Losses and the Gains from Trade.

Jane pays Chuck $50 to mow her lawn every week. When the government levies a mowing tax of $10 on Chuck, he raises his price to $60. Jane continues to hire him at the higher price. What is the change in producer surplus, change in consumer surplus, and deadweight loss? A) $0, $0, $10 B) $0, -$10, $0 C) +$10, -$10, $0 D) +$10, -$10, $0

B) $0, -$10, $0 In this case, the entire tax is passed to Jane, the consumer. Therefore, there is no change in producer surplus because the price received by Chuck remains the same, but there is a decrease of $10 in consumer surplus because Jane now pays $10 more than before. Since the overall surplus remains the same and no mutually beneficial transactions were lost, deadweight loss is zero in the presence of this tax. See Section: How a Tax Affects Market Participants.

The government auctions off 500 units of pollution rights. They sell for $50 per unit, raising total revenue of $25,000. This policy is equivalent to a corrective tax of _____ per unit of pollution. A) $10 B) $50 C) $450 D) $500

B) $50 In the case of a corrective tax, the supply curve for pollution rights is perfectly elastic because firms can pollute as much as they want by paying the tax, and the position of the demand curve determines the quantity of pollution. In the case of pollution permits, the supply curve for pollution rights is perfectly inelastic because the quantity of pollution is fixed by the number of permits, and the position of the demand curve determines the price of pollution. Hence, the government can achieve a pollution level of 500 units by setting a corrective tax of $50 per unit or by auctioning off 500 permits. See Sections: Market-Based Policy 1: Corrective Taxes and Subsidies; and Market-Based Policy 2: Tradable Pollution Permits.

If the production of a good yields a negative externality, then the social-cost curve lies ________ the supply curve, and the socially optimal quantity is ________ than the equilibrium quantity. A) above, greater B) above, less C) below greater D) below, less

B) above, less Because of the externality, the cost to society of producing the good is larger than the cost to the producers of that good. Therefore, the social-cost curve is above the supply curve because it takes into account the external costs imposed on society by the production of the good. This causes the equilibrium quantity to be larger than the socially optimal quantity because the market equilibrium reflects only the private costs of production. See Section: Negative Externalities.

The government imposes a $1,000 per year license fee on all pizza restaurants. Which cost curves shift as a result? A) average total cost and marginal cost B) average total cost and average fixed cost C) average variable cost and marginal cost D) average variable cost and average fixed cost

B) average total cost and average fixed cost A license fee is an example of a fixed cost; that is, it does not vary with the level of output. Both average total cost and average fixed cost include fixed costs in their calculations. Therefore, the license fee would cause both of these curves to shift. See Sections: Fixed and Variable Costs; and Average and Marginal Cost.

John has been working as a tutor for $300 a semester. When the university raises the price it pays tutors to $400, Emily enters the market and begins tutoring as well. How much does producer surplus rise as a result of this price increase? A) by less than $100 B) between $100 and $200 C) between $200 and $300 D) by more than $300

B) between $100 and $200 When the price of tutoring services rises from $300 to $400, producer surplus rises. This increase in producer surplus has two parts: 1. John now receives more for the tutoring services he was already providing. 2. Emily enters the market and receives a producer surplus somewhere between $0 and $100. Emily's producer surplus cannot be higher than $100 because if it were, then she would've provided tutoring services when the price was only $300. Therefore, overall producer surplus must rise between $100 and $200 when the price rises from $300 to $400.

When a market is in equilibrium, the buyers are those with the ________ willingness to pay, and the sellers are those with the ________ costs. A) highest, highest B) highest, lowest C) lowest, highest D) lowest, lowest

B) highest, lowest The price in a free market determines which buyers and sellers participate in a market. In particular, free markets allocate the supply of goods to the buyers who value them most highly, and they allocate the demand for goods to the sellers who can produce them at the lowest costB) highest, lowest

Public goods are A) efficiently provided by market forces B) under provided in the absence of government C) overused in the absence of government D) a type of natural monopoly

B) under provided in the absence of government Public goods are neither excludable nor rival in consumption. Because public goods are not excludable, the free-rider problem prevents the private market from supplying them. A free rider is a person who receives the benefit of a good but does not pay for it. The government, however, can potentially remedy the free-rider problem by providing the public good, paying for it with tax revenue, and making everyone better off. See Section: The Free-Rider Problem.

Which of the following is an example of a positive externality? A) Bob mows Hillary's lawn and is paid $100 for performing the service B) While mowing the lawn, Bob's lawnmower spews out smoke that Hillary's neighbor Kristen has to breathe C) Hillary's newly cut lawn makes her neighborhood more attractive D) Hillary's neighbors pay her if she promises to get her lawn cut on a regular basis

C) Hillary's newly cut lawn makes her neighborhood more attractive A positive externality arises when a person engages in an activity that influences the well-being of a bystander in a beneficial way but that person neither pays nor receives any compensation for that effect. In this case, Hillary having her lawn mowed positively benefits her neighbors by beautifying the neighborhood. See Section: Positive Externalities.

A firm is producing 20 units with an average total cost of $25 and marginal cost of $15. If the firm were to increase production to 21 units, which of the following must occur? A) marginal cost would decrease B) marginal cost would increase C) average total cost would decrease D) average total cost would increase

C) average total cost would decrease Whenever marginal cost is less than average total cost, average total cost is falling. Whenever marginal cost is greater than average total cost, average total cost is rising. In this case, marginal cost is below average total cost, therefore, average total cost is falling and would decrease if the firm were to increase production to 21 units. See Section: Cost Curves and Their Shapes.

Eggs have a supply curve that is linear and upward-sloping and a demand curve that is linear and downward-sloping. If a 2 cent per egg tax is increased to 3 cents, the deadweight loss of the tax A) increases by less than 50% and may even decline B) increases by exactly 50% C) increases by more than 50% D) The answer depends on whether supply or demand is more elastic

C) increases by more than 50% If demand is downward sloping and supply is upward sloping, the deadweight loss of a tax rises even more rapidly than the size of the tax. This occurs because the deadweight loss is the area of a triangle, and the area of a triangle depends on the square of its size. If you double the size of a tax, for instance, the base and height of the triangle double, so the deadweight loss rises by a factor of 4. In this case, if the size of a tax increases by 50 percent, the deadweight loss of the tax increases by more than 50 percent. See Section: Deadweight Loss and Tax Revenue as Taxes Vary.

Common resources are A) efficiently by market forces B) under provided in the incense of government C) overused in the absence of government D) a type of natural monopoly

C) overused in the absence of government Common resources are rival in consumption but not excludable and, thus, give rise to a problem known as the tragedy of the commons. When one person uses a common resource, that person diminishes other people's enjoyment of it. Because of this negative externality, common resources tend to be used excessively. The government can solve the problem by using regulation or taxes to reduce consumption of the common resource. Alternatively, the government can sometimes turn the common resource into a private good. See Section: The Tragedy of the Commons.

Producing a quantity larger than the equilibrium of supply and demand is inefficient because the marginal buyer's willingness to pay is A) negative B) zero C) positive but less than the marginal seller's cost D) positive and greater than the marginal seller's cost

C) positive but less than the marginal seller's cost Free markets produce the quantity of goods that maximizes the sum of consumer and producer surplus. Producing a quantity larger than the equilibrium quantity results in the value to the marginal buyer being less than the cost to the marginal seller. In this case, decreasing the quantity raises total surplus, and this continues to be true until quantity falls to the equilibrium level.

Which of the following statements about corrective taxes is not true? A) economists prefer them to command-and-control regulation B) they raise government revenue C) they cause deadweight losses D) they reduce the quantity sold in a market

C) they cause deadweight losses When the government levies a corrective tax in the presence of a negative externality, it increases the price paid by consumers, reduces the quantity sold in a market, and raises government revenue. Although many kinds of taxes distort the market and cause deadweight losses, corrective taxes alter incentives that market participants face to account for the presence of externalities and, thereby, move the allocation of resources closer to the social optimum, which reduces the deadweight loss already present with the negative externality. Additionally, economists usually prefer corrective taxes to regulations as a way to deal with pollution because they can reduce pollution at a lower cost to society. See Section: Market-Based Policy 1: Corrective Taxes and Subsidies.

The Coase theorem does NOT apply if A) there is a significant externality between two parties B) the court system vigorously enforces all contacts C) transaction costs make negotiating difficult D) both parties understand the externality fully

C) transaction costs making negotiating difficult According to the Coase theorem, if private parties can bargain over the allocation of resources at no cost, then the private market will always solve the problem of externalities and allocate resources efficiently. Therefore, the Coase theorem does not apply if transaction costs make negotiating difficult. See Section: The Coase Theorem.

Which of the following is an example of a common resource? A) residential housing B) national defense C) restaurant meals D) fish in the ocean

D) fish in the ocean Common resources are rival in consumption but not excludable. When one person catches fish, there are fewer fish for the next person to catch, so fish in the ocean are rival in consumption. Yet these fish are not an excludable good because, given the vast size of an ocean, it is difficult to stop fishermen from taking fish out of it. See Section: The Different Kinds of Goods.

A firm is producing 1,000 units at a total cost of $5,000. If it were to increase production to 1,001 units, its total cost would rise to $5,008. What does this information tell you about the firm? A) marginal cot is $5 and average variable cost is $8 B) marginal cost is $8 and average variable cost is $5 C) marginal is $5 and average total cost is $8 D) marginal cost is $8 and average total cost is $5

D) marginal cost is $8 and average total cost is $5 Marginal cost tells us the increase in total cost that arises from producing an additional unit of output. In this case, producing one additional unit raises costs by $5008- $500= $8. Average total cost tells us the cost of a typical unit of output if total cost is divided evenly over all the units produced. In this case, total cost divided by the number of units produced is equal to roughly $5008/ 1001= $5. See Section: Average and Marginal Cost.

Diminishing marginal product explains why, as a firm's output increases A0 the production function and total cost curve both get steeper B) the production function and total cost curve both get flatter C) the production function gets steeper, while the total cost curve gets flatter D) the production function gets flatter, while the total cost curve gets steeper

D) the production function gets flatter, while the total cost curve gets steeper The production function shows the relationship between the quantity of inputs and quantity of output. As output increases, so must the quantity of workers. Diminishing marginal product refers to the fact that as the inputs to production increase, the marginal product declines, causing the production function to get flatter as output increases. This also means that each subsequent increase in quantity requires a larger increase in inputs, causing total cost to rise at an increasing rate (that is, get steeper). See Sections: The Production Function; and From the Production Function to the Total-Cost Curve.