ECON 202.40 Midterm exam

Assume that demand for a commodity is represented by the equation P = 10 - .2Qd and supply by the equation P = 2 + .2Qs, where Qd and Qs are quantity demanded and quantity supplied, respectively, and P is price. Using the equilibrium condition Qs = Qd, solve the equations to determine equilibrium price. Now determine equilibrium quantity.

equilibrium price is P = 6; equilibrium quantity is Q = 20

3. Suppose that Omar's marginal utility for cups of coffee is constant at 1.5 utils per cup, no matter how many cups he drinks. On the other hand, his marginal utility per doughnut is 10 for the first doughnut he eats, 9 for the second he eats, 8 for the third he eats, and so on (that is, declining by 1 util per additional doughnut). In addition, suppose that coffee costs $1 per cup, doughnuts cost $1 each, and Omar has a budget that he can spend only on doughnuts, coffee, or both. How big would that budget have to be before he would spend a dollar buying a first cup of coffee?

$10

What is meant by the term "creative destruction"? How does the emergence of MP3 (iPod) technology relate to this idea?

Creative destruction refers to the process by which the creation of new products and production techniques destroys the market positions of firms committed to producing only existing products or using outdated methods. The ability to download and store a large number of songs, and the superior quality of MP3 is causing a decline in the CD industry.

4. Danny "Dimes" Donahue is a neighborhood's 9-year-old entrepreneur. His most recent venture is selling homemade brownies that he bakes himself. At a price of $1.50 each, he sells 100. At a price of $1.00 each, he sells 300. Is demand elastic or inelastic over this price range? If demand had the same elasticity for a price decline from $1.00 to $0.50 as it does for the decline from $1.50 to $1.00, would cutting the price from $1.00 to $0.50 increase or decrease Danny's total revenue?

Elastic; cutting price would increase Danny's total revenue. 

8. Indicate how each of the following would shift the (1) marginal-cost curve, (2) average-variable-cost curve, (3) average-fixed-cost curve, and (4) average-total-cost curve of a manufacturing firm. In each case specify the direction of the shift. a. A reduction in business property taxes. b. An increase in the nominal wages of production workers. c. A decrease in the price of electricity. d. An increase in insurance rates on plant and equipment. e. An increase in transportation costs.

(a) This is a change in the fixed cost. This implies there will be no change in MC or AVC. Since this is a decrease in fixed cost AFC shifts down and ATC shifts down (sum of AVC and AFC). (b) This is a change in variable cost. Since wages are now higher, MC shifts up, AVC shifts up, and ATC shifts up. There is no change in AFC. (c) This is a change in variable cost. The lower price of electricity implies MC shifts down, AVC shifts down, and ATC shifts down. There is no change in AFC. (d) This is a change in the fixed cost. This implies there will be no change in MC or AVC. Since this is an increase in fixed cost AFC shifts up and ATC shifts up. (e) This is a change in variable cost. Since transportation costs are now higher, MC shifts up, AVC shifts up, and ATC shifts up. There is no change in AFC.

9. Suppose a firm has only three possible plant-size options, represented by the ATC curves shown in the accompanying figure. What plant size will the firm choose in producing (a) 50, (b) 130, (c) 160, and (d) 250 units of output? Draw the firm's long-run average-cost curve on the diagram and describe this curve.

(a) To produce 50 units, the firm will choose plant size #1, since its ATC is lower for this size firm in producing less than 80 units. (b) To produce 130 units, the firm will choose plant size #2, since its ATC is lower for size #2 in producing between 80 and 240 units. (c) To produce 160 units, the firm will choose plant size #2, since its ATC is lowest for producing between 80 and 240 units. (d) To produce 250 units, the firm will choose plant size #3, since its ATC is lowest for production of more than 240 units. The firm's long run average total cost curve will be the lower sections of the different plant size ATC schedules.

1. Mylie's total utility from singing the same song over and over is 50 utils after one repetition, 90 utils after two repetitions, 70 utils after three repetitions, 20 utils after four repetitions, -50 utils after five repetitions, and -200 utils after six repetitions. Write down her marginal utility for each repetition. Once Mylie's total utility begins to decrease, does each additional singing of the song hurt more than the previous one or less than the previous one?

50, 40, -20, -50, -70, -150; More than the previous one.

5. You are choosing between two goods, X and Y, and your marginal utility from each is as shown in the table below. If your income is $9 and the prices of X and Y are $2 and $1, respectively, what quantities of each will you purchase to maximize utility? What total utility will you realize? Assume that, other things remaining unchanged, the price of X falls to $1. What quantities of X and Y will you now purchase? Using the two prices and quantities for X, derive a demand schedule (prices and quantities demanded table) for X.

: X = 2 units, Y = 5 units; total utility = 48; X = 4, Y = 5; Demand schedule = Price Demanded 2 1 Quantity Demanded 2 4

5. What is the formula for measuring the price elasticity of supply? Suppose the price of apples goes up from $20 to $22 a box. In direct response, Goldsboro Farms supplies 1,200 boxes of apples instead of 1,000 boxes. Compute the coefficient of price elasticity (midpoints approach) for Goldsboro's supply. Is its supply elastic, or is it inelastic?

: elasticity of supply = percentage change in quantity supplied/ percentage change in price Es = 1.91; supply is elastic

Contrast how a market system and a command economy try to cope with economic scarcity.

A market system allows for the private ownership of resources and coordinates economic activity through market prices The command economy is characterized by public ownership of nearly all property resources and economic decisions are made through central planning.

2. Imagine you have some workers and some hand-held computers that you can use to take inventory at a warehouse. There are diminishing returns to taking inventory. If one worker uses one computer, he can inventory 100 items per hour. Two workers can together inventory 150 items per hour. Three workers can together inventory 160 items per hour. And four or more workers can together inventory fewer than 160 items per hour. Computers cost $100 each and you must pay each worker $25 per hour. If you assign one worker per computer, what is the cost of inventorying a single item with one worker? What if you assign two workers per computer? Three? How many workers per computer should you assign if you wish to minimize the cost of inventorying a single item?

$1.25 per item = ($100 for computer + $25 for one worker for 1 hour)/(100 items inventoried in 1 hour); $1.00 per item = ($100 for computer + $50 for two workers for 1 hour)/(150 items inventoried in 1 hour); $1.09 = ($100 for computer + $75 for three workers for 1 hour)/(160 items inventoried in 1 hour); you should assign two workers per computer if you want to minimize the cost of inventorying a single item.

Assume that a business firm finds that its profit it greatest when it produces $40 worth of product A. Suppose also that each of the three techniques shown in the table on page 43 will produce the desired output. a. With the resource prices shown, which technique will the firm choose? Why? Will production entail profit or losses? What will be the amount of profit or loss? Will the industry expand or contract? When will that expansion end? b. Assume now that a new technique, technique 4, is developed. It combines 2 units of labor, 2 of land, 6 of capital, and 3 of entrepreneurial ability. In view of the resource prices in the table, will the firm adopt the new technique? Explain your answer. c. Suppose that an increase in labor supply causes the price of labor to fall to $1.50 per unit, all other resource prices being unchanged. Which technique will the producer now choose? Explain. d. "The market system causes the economy to conserve most in the use of those resources that are particularly scarce in supply. Resources that are scarcest relative to the demand for them have the highest prices. As a result, producers use these resources as sparingly as is possible." Evaluate this statement. Does your answer to part c, above, bear out this contention? Explain.

(a) Technique 2. Because it produces the output with least cost ($34 compared to $35 each for the other two). Economic profit will be $6 (= 40 - $34), which will cause the industry to expand. Expansion will continue until prices decline to where total revenue is $34 (equal to total cost). (b) Adopt technique 4 because its cost is now lowest at $32. (c) Technique 1 because its cost is now lowest at $27.50. (d) The statement is logical. Increasing scarcity causes prices to rise. Firms ignoring higher resource prices will become high-cost producers and be competed out of business by firms switching to the less expensive inputs. The market system forces producers to conserve on the use of highly scarce resources. Question 9c confirms this: Technique 1 was adopted because labor had become less expensive.

Currently, at a price of $1 each, 100 popsicles are sold per day in the perpetually hot town of Rostin. Consider the elasticity of supply. In the short run, a price increase from $1 to $2 is unit elastic (Es = 1.0). So how many popsicles will be sold each day in the short run if the price rises to $2 each? In the long run, a price increase from $1 to $2 has an elasticity of supply of 1.50. So how many popsicles will be sold per day in the long run if the price rises to $2 each? (Hint: Apply the midpoints approach to the elasticity of supply.)

200 per day in the short run; 300 per day in the long run.

7. Suppose that with a budget of $100, Deborah spends $60 on sushi and $40 on bagels when sushi costs $2 per piece and bagels cost $2 per bagel. But then, after the price of bagels falls to $1 per bagel, she spends $50 on sushi and $50 on bagels. How many pieces of sushi and how many bagels did Deborah consume before the price change? At the new prices, how much money would it have cost Deborah to buy those same quantities (the ones that she consumed before the price change)? Given that it used to take Deborah's entire $100 to buy those quantities, how big is the income effect caused by the reduction in the price of bagels?

30 pieces of sushi and 20 bagels; $80 (= 30*$2 + 20*$1); $20.

1. Look at the demand curve in Figure 6.2a. Use the midpoint formula and points a and b to calculate the elasticity of demand for that range of the demand curve. Do the same for the demand curves in Figures 6.2b and 6.2c using, respectively, points c and d for Figure 6.2b and points e and f for Figure 6.2c.

9/5 = 1.8; 5/9 = .5556; 1.

7. Suppose that the demand and supply schedules for rental apartments in the city of Gotham are as given in the table below. a. What is the market equilibrium rental price per month and the market equilibrium number of apartments demanded and supplied? b. If the local government can enforce a rent-control law that sets the maximum monthly rent at $1,500, will there be a surplus or a shortage? Of how many units? And how many units will actually be rented each month? c. Suppose that a new government is elected that wants to keep out the poor. It declares that the minimum rent that can be charged is $2,500 per month. If the government can enforce that price floor, will there be a surplus or a shortage? Of how many units? And how many units will actually be rented each month?  d. Suppose that the government wishes to decrease the market equilibrium monthly rent by increasing the supply of housing. Assuming that demand remains unchanged, by how many units of housing would the government have to increase the supply of housing in order to get the market equilibrium rental price to fall to $1,500 per month? To $1,000 per month? To $500 per month?

: (a) 12,500 apartments at a rent of $2000 per month; (b) A shortage of 5,000 apartments per month, 10,000 apartments will actually be rented each month; (c) A surplus of 5,000 apartments per month, 10,000 apartments will actually be rented each month; (d) 5,000 units, 10,000 units; 15,000 units.

1. Distinguish between explicit and implicit costs, giving examples of each. What are some explicit and implicit costs of attending college?

Explicit costs are payments the firm must make for inputs to non-owners of the firm to attract them away from other employment, for example, wages and salaries to its employees. Implicit costs are nonexpenditure costs that occur through the use of self‑owned, self‑employed resources, for example, the salary the owner of a firm forgoes by operating his or her own firm and not working for someone else. The explicit costs of going to college are the tuition costs, the cost of books, and the extra costs of living away from home (if applicable). The implicit costs are the income forgone and the hard grind of studying (if applicable).

6. List several fixed and variable costs associated with owning and operating an automobile. Suppose you are considering whether to drive your car or fly 1000 miles to Florida for spring break. Which costs—fixed, variable, or both—would you take into account in making your decision? Would any implicit costs be relevant? Explain.

Fixed costs associated with owning and operating an automobile include the price of the car (probably monthly payments); insurance; driver's license; car license; and depreciation. Variable costs associated with owning and operating an automobile include gasoline, oil, lubricants; repairs; car wash; and depreciation, which is also in part a variable cost since the more the car is driven, the more it depreciates. The costs of driving to Fort Lauderdale are the same variable costs (including depreciation) listed above. Going by plane, the variable cost is the cost of the ticket. It would probably be cheaper to drive but this would leave out the relevant implicit cost—my time and the wear and tear on myself of driving there and back. The plane would be faster. How much is it worth to me to arrive sooner and stay longer and be fresher on arrival? On the other hand, maybe I'd find the car useful around Fort Lauderdale, and having one's own car saves the variable cost of renting if one flies.

2. John likes Coca-Cola. After consuming one Coke, John has a total utility of 10 utils. After two Cokes, he has a total utility of 25 utils. After three Cokes, he has a total utility of 50 utils. Does John show diminishing marginal utility for Coke or does he show increasing marginal utility for Coke? Suppose that John has $3 in his pocket. If Cokes cost $1 each and John is willing to spend one of his dollars on purchasing a first can of Coke, would he spend his second dollar on a Coke, too? What about the third dollar? If John's marginal utility for Coke keeps on increasing no matter how many Cokes he drinks, would it be fair to say that he is addicted to Coke?

Increasing; Yes; Yes.

5. Why can the distinction between fixed costs and variable costs be made in the short run? Classify the following as fixed or variable costs: advertising expenditures, fuel, interest on company-issued bonds, shipping charges, payments for raw materials, real estate taxes, executive salaries, insurance premiums, wage payments, depreciation and obsolescence charges, sales taxes, and rental payments on leased office machinery. "There are no fixed costs in the long run; all costs are variable." Explain.

The distinction can be made because there are some costs that do not vary with total output. Fixed costs are related to the size and scale of the plant. In the short run, the scale of the plant can't be changed. Thus, it is a fixed cost. Advertising expenditures: variable costs Fuel: variable costs. Interest on company‑issued bonds: fixed costs. Shipping charges: variable costs. Payments for raw materials: variable costs. Real estate taxes: fixed costs. Executive salaries: fixed costs. Insurance premiums: fixed costs. Wage payments: variable costs. Depreciation and obsolescence charges: fixed costs. Sales taxes: variable costs. Rental payments on leased office machinery: fixed costs In the long run, the firm can, by definition, get out of paying all of its short‑run fixed costs; its lease is up, it can fire its executives without penalty, the insurance has run out, and so on.

10. Use the concepts of economies and dis-economies of scale to explain the shape of a firm's long-run ATC curve. What is the concept of minimum efficient scale? What bearing can the shape of the long-run ATC curve have on the structure of an industry?

The long-run ATC curve is U-shaped. The MES (minimum efficient scale) is the smallest level of output needed to attain all economies of scale and minimum long-run ATC. If long-run ATC drops quickly to its minimum cost which then extends over a long range of output, the industry will likely be composed of both large and small firms.

3. Which of the following are short-run and which are long-run adjustments? a. Wendy's builds a new restaurant. b. Harley-Davidson Corporation hires 200 more production workers. c. A farmer increases the amount of fertilizer used on his corn crop. d. An Alcoa aluminum plant adds a third shift of workers.

a) Long-Run. (b) Short-Run. (c) Short-Run. (d) Short-Run.

a. Before economic growth, there were too few goods; after growth, there is too little time. b. It is irrational for an individual to take the time to be completely rational in economic decision making. c. Telling your spouse where you would like to go out to eat for your birthday makes sense in terms of utility maximization.

a. Before economic growth, most people lived at the subsistence level. By practically anyone's definition, this implies "too few goods." After economic growth, goods are in relative abundance. There just isn't enough time. (b) To be completely rational in economic decision making, provided one does not take time into consideration, one has to take account of every factor. This would take a great deal of time. c. There is little time sacrificed in making a request to your spouse for the restaurant where you eat on your birthday.

4. Complete the table directly below by calculating marginal product and average product. Plot the total, marginal, and average products and explain in detail the relationship between each pair of curves. Explain why marginal product first rises, then declines, and ultimately becomes negative. What bearing does the law of diminishing returns have on short-run costs? Be specific. "When marginal product is rising, marginal cost is falling. And when marginal product is diminishing, marginal cost is rising." Illustrate and explain graphically.

see table

3. Suppose that the total revenue received by a company selling basketballs is $600 when the price is set at $30 per basketball and $600 when the price is set at $20 per basketball. Without using the midpoint formula, can you tell whether demand is elastic, inelastic, or unit-elastic over this price range?

unit elastic

2. The figure below shows the supply curve for tennis balls, S1, for Drop Volley tennis, a producer of tennis equipment. Use the figure and the table below to give your answers to the following questions a. Use the figure to fill in the quantity supplied on supply curve S1 for each price in the table below. b. If production costs were to increase, the quantities supplied at each price would be as shown by the third column of the table ("S2 Quantity Supplied"). Use that data to draw supply curve S2 on the same graph as supply curve S1. c. In the fourth column of the table, enter the amount by which the quantity supplied at each price changes due to the increase in product costs. (Use positive numbers for increases and negative numbers for decreases.) d. Did the increase in production costs cause a "decrease in supply" or a "decrease in quantity supplied"?

(a) 15 balls at $3; 10 balls at $2, 5 balls at $1; (b) Draw in supply curve S2 using the data in column 3; (c) -11 balls at $3; -8 balls at $2; -5 balls at $1; (d) decrease in supply.

4. Columns 1 through 4 in the table below show the marginal utility, measured in utils, that Ricardo would get by purchasing various amounts of products A, B, C, and D. Column 5 shows the marginal utility Ricardo gets from saving. Assume that the prices of A, B, C, and D are, respectively, $18, $6, $4, and $24 and that Ricardo has an income of $106. a. What quantities of A, B, C, and D will Ricardo purchase in maximizing his utility? b. How many dollars will Ricardo choose to save? c. Check your answers by substituting them into the algebraic statement of the utility-maximizing rule (verify that all of the income has been exhausted between the various goods and savings).

(a) 4 units of good A, 3 units of good B, 3 units of good C, zero units of good D; (b) $4; (c) $106 (= $18x4 + $6x3 +$4x3 + $24x0 + $4)

3. Refer to the expanded table below from review question 8. a. What is the equilibrium price? At what price is there neither a shortage nor a surplus? Fill in the surplus-shortage column and use it to confirm your answers. b. Graph the demand for wheat and the supply of wheat. Be sure to label the axes of your graph correctly. Label equilibrium price P and equilibrium quantity Q. c. How big is the surplus or shortage at $3.40? At $4.90? How big a surplus or shortage results if the price is 60 cents higher than the equilibrium price? 30 cents lower than the equilibrium price?

(a) Equilibrium price = $4.00. There is neither a shortage nor a surplus at $4.00. Quantity demanded and quantity supplied are equal to each other when price is $4.00. (b) make a graph (c) At $3.40, there is a shortage of 13 units (i.e., -13). At $4.90, there is a surplus of 21 units (i.e. +21). If the price increases by 60 cents from the equilibrium price, a surplus of 14 units (+14) results. If the price falls by 30 cents from the equilibrium price, a shortage of 7 units (-7) results.

4. How will each of the following changes in demand and/or supply affect equilibrium price and equilibrium quantity in a competitive market; that is, do price and quantity rise, fall, or remain unchanged, or are the answers indeterminate because they depend on the magnitudes of the shifts? Use supply and demand to verify your answers. a. Supply decreases and demand is constant. b. Demand decreases and supply is constant. c. Supply increases and demand is constant. d. Demand increases and supply increases. e. Demand increases and supply is constant. f. Supply increases and demand decreases. g. Demand increases and supply decreases. h. Demand decreases and supply decreases.

(a) Price up; quantity down; (b) Price down; quantity down; (c) Price down; quantity up; (d) Price indeterminate; quantity up; (e) Price up; quantity up; (f) Price down; quantity indeterminate; (g) Price up, quantity indeterminate; (h) Price indeterminate and quantity down.

1. Suppose there are three buyers of candy in a market: Tex, Dex, and Rex. The market demand and the individual demands of Tex, Dex, and Rex for candy are given in the table below. a. Fill in the table for the missing values. b. Which buyer demands the least at a price of $5? The most at a price of $7? c. Which buyer's quantity demanded increases the most when the price is lowered from $7 to $6? d. Which direction would the market demand curve shift if Tex withdrew from the market? What if Dex doubled his purchases at each possible price? e. Suppose that at a price of $6, the total quantity demanded increases from 19 to 38. Is this a "change in the quantity demanded" or a "change in demand"?

(a) Row 1: 4; Row 2: 2; Row 3: 12; Row 4:4; Row 5: 36. (b) Dex, Tex. (c)Tex. (d) Left, Right. (e) "A change in demand."

2. Investigate how demand elasticities are affected by increases in demand. Shift each of the demand curves in Figures 6.2a, 6.2b, and 6.2c to the right by 10 units. For example, point a in Figure 6.2a would shift rightward from location (10 units, $2) to (20 units, $2) while point b would shift rightward from location (40 units, $1) to (50 units, $1). After making these shifts, apply the midpoint formula to calculate the demand elasticities for the shifted points. Are they larger or smaller than the elasticities you calculated in Problem 1 for the original points? In terms of the midpoint formula, what explains the change in elasticities?

1.29; 1/3 = .3333; 2/3 = .6667; smaller; everything in the midpoint formula stays the same except the reference point for quantity, which increases—that increase reduces the elasticity.

3. You are a newspaper publisher. You are in the middle of a one-year rental contract for your factory that requires you to pay $500,000 per month, and you have contractual labor obligations of $1 million per month that you can't get out of. You also have a marginal printing cost of $.25 per paper as well as a marginal delivery cost of $.10 per paper. If sales fall by 20 percent from 1 million papers per month to 800,000 papers per month, what happens to the AFC per paper, the MC per paper, and to the minimum amount that you must charge to break even on these costs?

AFC per paper rises from $1.50 per paper to $1.88 per paper; MC does not change; and the minimum amount that the paper must charge to break even rises from $1.85 per paper (= $1.5 million in fixed costs divided by 1 million papers plus $.35 per paper in marginal costs) to $2.23 per paper (= $1.5 million in fixed costs divided by 800,000 papers plus $.35 per paper in marginal costs).

1. Gomez runs a small pottery firm. He hires one helper at $12,000 per year, pays annual rent of $5000 for his shop, and spends $20,000 per year on materials. He has $40,000 of his own funds invested in equipment (pottery wheels, kilns, and so forth) that could earn him $4000 per year if alternatively invested. He has been offered $15,000 per year to work as a potter for a competitor. He estimates his entrepreneurial talents are worth $3000 per year. Total annual revenue from pottery sales is $72,000. Calculate the accounting profit and the economic profit for Gomez's pottery firm.

Accounting profit = $35,000 (= $72,000 of revenue - $37,000 of explicit costs); Economic profit = $13,000 (= $72,000 - $37,000 of explicit costs - $22,000 of implicit costs).

2. Distinguish between accounting profit, economic profit, and normal profit. Does accounting profit or economic profit determine how entrepreneurs allocate resources between different business ventures? Explain.

Accounting profit equals sales revenue minus explicit costs, such as material, the wages of employees Normal profit equals the accounting profit you could have potentially earned in a different (or alternative) business venture. Economic profit equals the accounting profit minus the additional implicit costs of the business Economic profit determines how entrepreneurs allocate resources between different business ventures.

7. Using the utility-maximization rule as your point of reference, explain the income and substitution effects of an increase in the price of product B, with no change in the price of product A.

The utility-maximization rule compares the marginal utilities per dollar of goods under consideration (in this case A and B). If the increased price of B caused the marginal utility per dollar of the last unit of B to fall below the MU/$ of the next unit of A, we would expect the consumer to substitute A for B in consumption .

Distinguish between the resource market and product market in the circular flow model. In what way are businesses and households both sellers and buyers in this model? What are the flows in the circular flow model?

The resource markets are where the owners of the resources (the households) sell their resources to the buyers of the resources (businesses). In the product markets, businesses sell the goods and services they have produced to the buyers of the goods and services, the households. Households (individuals) either own all economic resources directly or own them indirectly through their ownership of business corporations. Businesses buy resources because they are necessary for producing goods and services One flow is the flow of real goods and services (including resource services) and the other flow is the flow of money (money income, consumption expenditures, revenue, production costs).

7. A firm has fixed costs of $60 and variable costs as indicated in the table at the bottom of this page. Complete the table and check your calculations a. Graph total fixed cost, total variable cost, and total cost. Explain how the law of diminishing returns influences the shapes of the variable-cost and total-cost curves. b. Graph AFC, AVC, ATC, and MC. Explain the derivation and shape of each of these four curves and their relationships to one another. Specifically, explain in nontechnical terms why the MC curve intersects both the AVC and the ATC curves at their minimum points. c. Explain how the location of each curve graphed in question 7b would be altered if (1) total fixed cost had been $100 rather than $60 and (2) total variable cost had been $10 less at each level of output. 

Make table for costs. a. See the graph below. Over the 0 to 4 range of output, the TVC and TC curves slope upward at a decreasing rate because of increasing marginal returns. The slopes of the curves then increase at an increasing rate as diminishing marginal returns occur. b. See the graph below. AFC (= TFC/Q) falls continuously since a fixed amount of capital cost is spread over more units of output. The MC (= change in TC/change in Q), AVC (= TVC/Q), and ATC (= TC/Q) curves are U-shaped, reflecting the influence of first increasing and then diminishing returns. The ATC curve sums AFC and AVC vertically. The ATC curve falls when the MC curve is below it; the ATC curve rises when the MC curve is above it. This means the MC curve must intersect the ATC curve at its lowest point. The same logic holds for the minimum point of the AVC curve. (c1) If TFC has been $100 instead of $60, the AFC and ATC curves would be higher—by an amount equal to $40 divided by the specific output. Example: at 4 units, AVC = $25.00 [= ($60 + $40)/4]; and ATC = $62.50 [= ($210 + $40)/4]. The AVC and MC curves are not affected by changes in fixed costs. (c2) If TVC has been $10 less at each output, MC would be $10 lower for the first unit of output but remain the same for the remaining output. The AVC and ATC curves would also be lower—by an amount equal to $10 divided by the specific output. Example: at 4 units of output, AVC = $35.00 [= $150 - $10)/4], ATC = $50 [= ($210 - $10)/4]. The AFC curve would not be affected by the change in variable costs.

1. Complete the following table and answer the questions below: a. At which rate is total utility increasing: a constant rate, a decreasing rate, or an increasing rate? How do you know? b. "A rational consumer will purchase only 1 unit of the product represented by these data since that amount maximizes marginal utility." Do you agree? Explain why or why not. c. "It is possible that a rational consumer will not purchase any units of the product represented by these data." Do you agree? Explain why or why not.

Missing total utility data, top - bottom: 18; 33. The missing total utility for the second unity can be found by adding the marginal utility (change in utility) to the total utility for the first unit. By consuming the second unit, 8 more units of utils are added; thus total utility is 18 (= 10 + 8). Missing marginal utility data, top - bottom: 7; 5; 1. The missing marginal utility values are found by subtracting the total utility for the previous unit consumed from the total utility of the unit with the missing value (the change in utility). The marginal utility for the third unit is 7, which equals 25 (total utility for the third unit) minus 18 (total utility for the second unit). (a) A decreasing rate; because marginal utility is declining. (b) Disagree. The marginal utility of a unit beyond the first may be sufficiently great (relative to product price) to make it a worthwhile purchase. Consumers are interested in maximizing total utility, not marginal utility. (c) Agree. This product's price could be so high relative to the first unit's marginal utility that the consumer would buy none of it.

2. Mrs. Simpson buys loaves of bread and quarts of milk each week at prices of $1 and 80 cents, respectively. At present she is buying these products in amounts such that the marginal utilities from the last units purchased of the two products are 80 and 70 utils, respectively. Is she buying the utility-maximizing combination of bread and milk? If not, how should she reallocate her expenditures between the two goods?

Mrs. Wilson is not buying the utility‑maximizing combination of bread and milk because the marginal utility per cent spent on each good is not equal. The marginal utility per cent of bread is 0.8 (= 80 utils/100 cents); the utility per cent of milk is 0.875 (= 70 utils/80 cents). Mrs. Wilson should buy more milk and less bread.

5. Use two market diagrams to explain how an increase in state subsidies to public colleges might affect tuition and enrollments in both public and private colleges.

The supply curve of the public colleges shifts to the right, reducing tuition and increasing enrollments. Enrollment demand curve of private colleges shifts to the left because of substitution away from private colleges.

With current technology, suppose a firm is producing 400 loaves of banana bread daily. Also, assume that the least-cost combination of resources in producing those loaves is 5 units of labor, 7 units of land, 2 units of capital, and 1 unit of entrepreneurial ability, selling at prices of $40, $60, $60, and $20, respectively. If the firm can sell these 400 units at $2 per unit, will it continue to produce banana bread? If this firm's situation is typical for the other makers of banana bread, will resources flow to or away from this bakery good?

The firm will continue to produce as it is earning economic profits of $40 (Total revenue of $800 minus total cost of $760). If this firm is typical, more resources will flow toward banana bread as other potential firms are attracted to the economic profits.

6. Many apartment-complex owners are installing water meters for each apartment and billing the occupants according to the amount of water they use. This is in contrast to the former procedure of having a central meter for the entire complex and dividing up the collective water expense as part of the rent. Where individual meters have been installed, water usage has declined 10 to 40 percent. Explain that drop, referring to price and marginal utility.

The way we pay for a good or service can significantly alter the amount purchased. An individual living in an apartment complex who paid a share of the water expense measured by a central meter would have little incentive to conserve. Individual restraint would not have much impact on the total amount of water used.

5. In the last decade or so there has been a dramatic expansion of small retail convenience stores (such as 7 Eleven, Kwik Shop, and Circle K), although their prices are generally much higher than prices in large supermarkets. What explains the success of the convenience stores?

These stores are selling convenience as well as the goods that are purchased there. Because of their small size and convenient locations, they save busy consumers time.

3. How can time be incorporated into the theory of consumer behavior? Explain the following comment: "Want to make millions of dollars? Devise a product that saves Americans lots of time."

Time is money. This expression is a time‑saving way of making the point that for a person who can make so much per hour, every hour spent not working is so much money not made.