Microeconomics Exam 1 Review Questions

What do economists mean by an efficient tax?

taxed at a lower rate than an alternative financial process that achieves the same end. Passing one's assets onto one's heirs using a Grantor Retained Annuity Trust, for example, is potentially more tax efficient than simply letting the heirs inherit the assets.

What is meant by tax incidence?

the actual division of the burden of a tax

What are the two main categories of participants in markets? Which participants are of greatest importance in determining what goods and services are produced?

Households and firms. Households.

What does increasing marginal opportunity costs mean?

Illustrates the important economic concept that the more resources that are already devoted to any activity, the smaller the payoff from devoting additional resources to that activity is likely to be

Does who is legally responsible for paying a tax-- buyers or sellers-- make a difference in the amount of tax each pays? Briefly explain

In most cases, consumers and firms share the burden of a tax levied on a g/s

What are the main variables that will cause the demand curve to shift? Give an example of each.

Income, prices of related goods, tastes, population and demographics, expected future prices.

What is a black market? Under what circumstances do black markets arise?

buying and selling take place at prices that violate government price regulations, Occurs when there are price ceilings/floors

What is the main determinant of the price elasticity of supply?

depends on the ability and willingness of firms to alter the Q they produce as price increases.

The price of organic apples falls, and apple growers find that their revenue increases. Is the demand for organic apples inelastic or elastic?

elastic

Is the demand for most agricultural products elastic or inelastic? Briefly explain

inelastic. they're necessary

If the demand for orange juice is inelastic, will an increase in the price of orange juice increase or decrease the revenue that orange juice sellers receive?

it may decrease it but only by a very small amount

If an increase of 10 percent in the price of frozen pizzas results in a 9 percent increase in the quantity of frozen pizzas supplied, what is the price elasticity of supply for frozen pizzas? Is the supply of pizzas inelastic or elastic?

.9, inelastic

Briefly discuss each of the following economic ideas: People are rational. People respond to economic incentives. Optimal decisions are made at the margin.

1) Economists assume that people are rational in the sense that consumers and firms use all available information as they take actions intended to achieve their goals 2) Although people act from a variety of motives, large amounts of evidence indicates that they respond to economic incentives. 3) The optimal decision is to continue any activity up to the point where MB=MC.

What are the three economic questions that every society must answer? Briefly discuss the differences in the way centrally planned, market, and mixed economies answer these questions.

1) What g/s will be produced? 2) How? 3) Who will receive the g/s? -Centrally planned: Most decisions are made by the government (ex: soviet union) -Market: Most economic decisions are made by consumers and firms -Mixed: Most economies. Most economic decisions are made by consumers and firms but the government also plays a significant role (ex: US)

If, over time, the demand curve for a product shifts to the right more than the supply curve does, what will happen to the equilibrium price? What happens if the opposite happens?

1) equilibrium price will rise 2) equilibrium price will fall

What is the difference between a change in demand and a change in quantity demanded?

A change in demand causes the curve to shift inward or outward. A change in quantity demanded results in movement up or down the curve.

Describe the five steps economists follow to arrive at a useful economic model.

1. decide on the assumptions to use in the developing model 2. formulate testable hypothesis 3. use economic data to test hypothesis 4. revise model if it fails to explain data well 5. retain revised model to help answer similar economic questions in the future

If a 10 percent increase in the price of cheerios causes a 25 percent reduction in the number of boxes of cheerios demanded, what is the price elasticity of demand for cheerios? Is the demand for cheerios elastic or inelastic?

2.5, elastic

What is the difference between a change in supply and a change in quantity supplied?

A change in supply causes the curve to shift inward or outward. A change in quantity supplied results in movement up or down the curve.

What is a free market? In what ways does a free market economy differ from a centrally planned economy?

A free market is where the government doesn't control the production of g/s. Changes in prices lead firms to produce the g/s most desired by consumers,

What is economic efficiency? Why do economists define efficiency in this way?

A market income in which the marginal benefit to consumers of the last unit produced is equal to its marginal cost of production and in which the sum of consumer surplus and producer surplus is at a max.

What happens in a market if the current price is above the equilibrium price? What happens if the current price is below the equilibrium price?

A market that is not in equilibrium moves toward equilibrium. Once a market is there, it remains there.

What is a circular flow diagram and what does it demonstrate?

A model that shows how participants in product markets and factor markets are linked. It is a simplified version of reality

What is the law of supply? What are the main variables that cause a supply curve to shift? Give an example of each.

A rule that states that, ceteris paribus, increases in the price cause increases i the quantity supplied, and decreases in price cause decreases in the quantity supplied -Prices of inputs, tech change, price of related goods in production, number of firms in market, expected future prices

What is the law of demand? Use the substitution effect and the income effect to explain why an increase in the price of a product causes a decrease in the quantity demanded.

A rule that states that, ceteris paribus, when the price of a product falls, the quantity demanded of the product will increase, and when the price of a product rises, the quantity demanded of the product will increase.

What do economists mean by market equilibrium?

A situation in which quantity demanded equals quantity supplied.

What is absolute advantage? What is comparative advantage? Is it possible for a country to have a comparative advantage in producing a good without also having an absolute advantage?

Absolute: It can produce more of that good or service using the same amount of resources Comparative: It can produce the good or service at the lowest opportunity cost. YES

What is an entrepreneur? Why do entrepreneurs play a key role in a market system?

An entrepreneur is someone who operates a business. In a market system, they are responsible for organizing the production of g/s.

What is the basis for trade: absolute or comparative advantage?

Comparative advantage

Why do economists use models? How are economic data used to test models?

Economists accept and use models if they lead to hypotheses that are confirmed by statistical analysis. Acceptance is tentative, pending on the gathering of new data or further analysis

What do economists mean with the expression ceteris paribus?

Holding everything else constant.

Briefly discuss the difference between microeconomics and macroeconomics.

Microeconomics is the study of how households and firms make choices, how they interact in markets, and how the government attempts to influence their choices. Macroeconomics is the study of how the economy as a whole, including topics such as inflation, unemployment, and economic growth.

Why might a tax create a deadweight loss?

Most result in a loss of both consumer and producer surplus, therefore a deadweight loss is experienced.

Is every economic issue either strictly microeconomic or strictly macroeconomic? Briefly explain.

No, the line is somewhat blurry and many situations have aspects of both.

What is the difference between normative analysis and positive analysis? Is economics concerned with mainly with normative or positive analysis? Briefly explain.

Positive analysis is concerned with what is while normative analysis is concerned with what ought to be. Economics is mainly concerned with positive analysis.

Do producers tend to favor price floors or price ceilings? Briefly explain.

Price ceilings, they reduce producer surplus.

What is the difference between productive efficiency and allocative efficiency?

Productive: Occurs when a good or service is produced at the lowest possible cost Allocative: Occurs when production corresponds with consumer preferences.

What are property rights? What role do they play in the working of a market system? Why are independent courts important for a well-functioning economy?

Property rights are the rights of individuals and firms to use their property. The market system will work well only if their is protection for property rights. They have the independence to make decisions based on the law without influence from other groups.

What is scarcity? Why is scarcity central to the study of economics?

Scarcity is the idea that our wants are unlimited but the resources necessary for those wants ARE limited. It is necessary because economics itself is the study of the choices consumers, businesses, and governments make to attain their goals, given their scarce resources.

What is a demand schedule? What is a demand curve?

Schedule: A table that shows the relationship between the price of a product and the quantity of the product demanded. Curve: A curve that shows the relationship between the price of a product and the quantity of the product demanded

What is a supply schedule? What is a supply curve?

Schedule: A table that shows the relationship between the price of a product and the quantity of the product supplied. Curve: A curve that shows the relationship between the price of a product and the quantity of the products supplied

Why do some consumers tend to favor price controls while others tend to oppose them?

Some people win, some lose, there is a loss of economic efficiency.

What do economists mean by shortage? Surplus?

Surplus: A situation in which the quantity supplied is more than the quantity demanded Shortage: the quantity supplied is less than the quantity demanded

Define economic surplus and deadweight loss.

Surplus: the sum of consumer surplus and producer surplus Deadweight: the reduction in economic surplus resulting from a market not being in competitive equilibrium.

What is a production possibilities frontier? How can we show efficiency on a PPF? How can we show inefficiency? What causes a PPF to shift outward?

The PPF is a curve that shows the max attainable combos of two goods that can be produced with available resources. Points on the PPF are technically efficient, points on the inside are inefficient, points on the outside are unattainable. Increasing MARGINAL OPPORTUNITY costs cause a PPF to shift out.

What is marginal benefit? Why is the demand curve referred to as a marginal benefit curve?

The additional benefit to a consumer from consuming one more unit of a g/s. Demand curves show the willingness of consumers to purchase a product at different prices.

What is marginal cost? Why is the supply curve referred to as marginal cost curve?

The additional cost to a firm of producing one more unit of a g/s. Supply curves show the willingness of firms to supply a product at different prices.

What is consumer surplus? How does consumer surplus change as the equilibrium price of a good rises or falls?

The difference between the highest price a consumer is willing to pay for a g/s and the actual price they pay.

What is producer surplus? How does producer surplus change as the equilibrium price of a good rises or falls?

The difference between the lowest price a firms is willing to sell a g/s for and the price they actually receive.

Why does scarcity imply that every society and every individual face trade-offs?

We have only a limited amount of resources and therefore producing more of one good or service means producing less of another good or service (trade-off)

What is the difference between efficiency and equity? Why do government policymakers often face trade-off between them?

With equity, there isn't an agreed-upon definition of fairness. When a government increases equity, efficiency may be reduced. This results in fewer g/s and less saving.

What are the key determinants of the price elasticity of demand for a product? Which determinant is the most important?

availability of close substitutes **most important passage of time luxury or necessity how narrowly the market for the good is defined the share of the good in the consumer's budget

Define the income elasticity of demand. How does the income elasticity of a normal good differ from the income elasticity of an inferior good. Is it possible to tell whether a product is a luxury good or a necessity good?

equal to the % change in the quantity demanded divided by the % change in income. Normal, necessity and luxury. Luxury if Q demanded is very responsive to changes in income . Necessity if Q demanded is not very responsive to changes in income.

Define the cross-price elasticity of demand. What does it mean if the cross-price elasticity of demand is negative? What does it mean if it is positive?

equal to the % change in the quantity demanded of one good divided by the % change in the price of another good. If negative, the products are complements. if positive, the products are substitutes.

Other than the midpoint formula, how else can you calculate the price elasticity of demand? What is the advantage of using the midpoint formula?

percentage change, midpoint is more accurate. With percentage change, there are two possible equations and they result in different answers. With the midpoint, you get one accurate result.